[JPRT 110-2-08]
[From the U.S. Government Publishing Office]
JCS-2-08
[JOINT COMMITTEE PRINT]
ESTIMATES OF
FEDERAL TAX EXPENDITURES
FOR FISCAL YEARS 2008-2012
__________
Prepared for the
HOUSE COMMITTEE ON WAYS AND MEANS
and the
SENATE COMMITTEE ON FINANCE
__________
By The Staff
of the
JOINT COMMITTEE ON TAXATION
[GRAPHIC] [TIFF OMITTED]
OCTOBER 31, 2008
-------
U.S. GOVERNMENT PRINTING OFFICE
45-156 PDF WASHINGTON DC: 2008 JCS-2-08
---------------------------------------------------------------------
For sale by the Superintendent of Documents, U.S. Government Printing
Office Internet: bookstore.gpo.gov Phone: toll free (866)512-1800
DC area (202)512-1800 Fax: (202) 512-2250 Mail Stop SSOP,
Washington, DC 20402-0001
C O N T E N T S
----------
Page
Introduction..................................................... 1
I. The New Approach..................................................3
II. Tax Subsidies....................................................11
A. Tax Transfers......................................... 11
B. Social Spending Examples.............................. 12
1. Deduction for mortgage interest on owner-occupied
residences....................................... 12
2. Exclusion of employer-provided health care
benefits......................................... 14
3. Exclusion of interest on State and local bonds.... 16
4. Deduction for nonbusiness State and local
government income taxes, sales taxes, and
personal property taxes.......................... 17
5. Section 162(m).................................... 18
C. Business Synthetic Spending Examples.................. 19
1. Last in First Out (``LIFO'') method of inventory
accounting....................................... 19
2. Tax credits for electricity production from
renewable resources.............................. 20
3. Tax exemption for certain organizations........... 21
4. Foreign investment in U.S. real estate............ 23
III.Tax-Induced Structural Distortions...............................25
IV. Measurement of Tax Expenditures..................................35
V. Tax Expenditure Tables...........................................48
INTRODUCTION
Tax expenditure analysis can help both policymakers and the
public to understand the actual size of government, the uses to
which government resources are put, and the tax and economic
policy consequences that follow from the implicit or explicit
choices made in fashioning legislation. By developing a
consistent, neutral and principled implementation of tax
expenditure analysis, the Staff of the Joint Committee on
Taxation (the ``JCT Staff'') therefore can provide Members of
Congress with a vitally important analytical tool that they can
employ in weighing the merits of both existing tax provisions
and new legislative proposals.
Earlier this year, the JCT Staff introduced a new paradigm
for the identification and classification of tax
expenditures.\1\ The new paradigm is designed to improve the
utility of tax expenditure analysis and to reemphasize its
neutrality. In particular, the new paradigm addresses the
principal criticism of tax expenditure analysis as originally
conceived and, by implication, as previously implemented by the
JCT Staff--its reliance on a comparison of present law with a
hypothetical and subjectively determined ``normal'' tax system.
---------------------------------------------------------------------------
\1\ See Joint Committee on Taxation, A Reconsideration of Tax
Expenditure Analysis (JCX-37-08), May 12, 2008 (hereinafter cited as
``JCT Reconsideration'').
---------------------------------------------------------------------------
In this pamphlet, we implement the new paradigm in
presenting the annual list of tax expenditures required by the
Congressional Budget and Impoundment Control Act of 1974.\2\
Section I reviews our new approach, including its division of
tax expenditures into two principal categories: tax
expenditures that can be identified as exceptions to the
general rules of the existing Internal Revenue Code (``Tax
Subsidies''), and a new category that we have termed ``Tax-
Induced Structural Distortions.'' Section I also describes
three subcategories of Tax Subsidies designed to facilitate the
comparison of similar tax expenditures to one another. Sections
II and III illustrate the application of these categories and
subcategories to particular tax expenditures. Section IV
discusses the methodology used to quantify the magnitude of tax
expenditures, and Section V presents a comprehensive list of
tax expenditures, identified and categorized under our new
approach.
---------------------------------------------------------------------------
\2\ Pub. L. No. 93-344 (herein, the ``Budget Act''). The Budget Act
requires the Congressional Budget Office (``CBO'') and the United
States Department of the Treasury (the ``Treasury Department'')
annually to publish detailed lists of tax expenditures. In light of the
traditional expertise of the JCT Staff in respect of revenue matters,
and a separate statutory requirement that Congress rely on JCT Staff
estimates when considering the revenue effects of proposed legislation,
the CBO has always relied on the JCT Staff for the production of its
annual tax expenditure publication. See P.L. 93-344 Sec. 201(g),
codified at 2 USC 601(f); Joint Committee on Taxation, Estimates of
Federal Tax Expenditures, October 4, 1972 (JCS-28-72), June 1, 1973
(JCS-20-73), July 8, 1975 (JCS-11-75), March 15, 1976 (JCS-5-76), March
15, 1977 (JCS-10-77), March 14, 1978 (JCS-9-78), March 15, 1979 (JCS-9-
79), March 6, 1980 (JCS-8-80), March 16, 1981 (JCS-7-81), March 8, 1982
(JCS-4-82), March 7, 1983 (JCS-4-83), November 9, 1984 (JCS-39-84),
April 12, 1985 (JCS-8-85), March 1, 1986 (JCS-7-86), February 27, 1987
(JCS-3-87), March 8, 1988 (JCS-3-88), February 28, 1989 (JCS-4-89),
March 9, 1990 (JCS-7-90), March 11, 1991 (JCS-4-91), April 24, 1992
(JCS-8-92), April 22, 1993 (JCS-6-93), November 9, 1994 (JCS-6-94),
September 1, 1995 (JCS-21-95), November 26, 1996 (JCS-11-96), December
15, 1997 (JCS-22-97), December 14, 1998 (JCS-7-98), December 22, 1999
(JCS-13-99), April 6, 2001 (JCS-1-01), January 17, 2002 (JCS-1-02),
December 19, 2002 (JCS-5-02), December 22, 2003 (JCS-8-03), January 12,
2005 (JCS-1-05), April 25, 2006 (JCS-2-06), September 24, 2007 (JCS-3-
07).
---------------------------------------------------------------------------
Tax expenditure analysis is (or should be) simply an
analytical tool, not a criticism of current law or an
expression of a normatively superior alternative tax system. By
describing provisions of current law as Tax Subsidies or Tax-
Induced Structural Distortions, and by quantifying (in the
former case) the forgone revenues associated with that tax
expenditure, this pamphlet provides policymakers with an
analytical framework and with quantitative data that they can
employ in judging the merits of each such item. It should be
emphasized that there is a reason behind every Tax Subsidy or
Tax-Induced Structural Distortion in the tax law, and that
there are many other modes of analysis besides tax expenditure
analysis that are relevant to the Members of Congress and
others in weighing the value of each provision of the tax law.
The inclusion in this pamphlet of an item as a tax expenditure
therefore is not meant to convey that the provision in any
fashion is necessarily problematic in the context of the larger
policy issues that Congress considers in fashioning every piece
of legislation.
I. THE NEW APPROACH
Background
The Budget Act defines tax expenditures as ``revenue losses
attributable to provisions of the Federal tax laws which allow
a special exclusion, exemption, or deduction from gross income
or which provide a special credit, a preferential rate of tax,
or a deferral of tax liability.'' \3\ Although the Budget Act
does not specify the baseline from which tax expenditures are
determined, the JCT Staff has traditionally followed an
approach consistent with the concept originated by Assistant
Secretary for Tax Policy Stanley Surrey and first implemented
in the Treasury Department's annual financial report for the
1968 fiscal year.\4\ That report, prepared under Surrey's
guidance, implemented his earlier call for a ``tax expenditure
budget'' that would encourage expenditure control and
facilitate tax reform.\5\ Surrey hoped that a formal
identification of tax expenditures as substitutes for direct
spending would reveal them to be poorly targeted or inefficient
when compared either to direct government spending or (in most
cases) to no spending at all.\6\ He further believed that a
more rigorous examination of tax expenditures, as if they were
spending requests, would demonstrate that many of these
provisions conflict with the goal of an equitable, efficient
and administrable income tax system. The 1968 Treasury Report
therefore sought to identify ``the major respects in which the
current income tax bases deviate from widely accepted
definitions of income and standards of business accounting and
from the generally accepted structure of an income tax.'' \7\
---------------------------------------------------------------------------
\3\ Budget Act, sec. 3(3).
\4\ United States Department of the Treasury, Annual Report of the
Secretary of the Treasury on the State of the Finances for the Fiscal
Year Ended June 30, 1968 (Washington, D.C., Government Printing Office,
1969) (herein, the ``1968 Treasury Report''). For its reports on the
1972 and 1974 fiscal years, the Treasury Department collaborated with
the JCT Staff.
\5\ Stanley S. Surrey, Excerpts from remarks before The Money
Marketeers on The U.S. Income Tax System--the Need for a Full
Accounting, November 15, 1967, in the 1968 Treasury Report, supra, at
322; see also Stanley S. Surrey, Pathways to Tax Reform (Cambridge,
Mass., Harvard University Press, 1973) at 30-49 (describing uses of a
tax expenditure budget).
\6\ Stanley S. Surrey and Paul R. McDaniel, Tax Expenditures, at
32-37 (Cambridge, Mass., Harvard University Press, 1985).
\7\ 1968 Treasury Report, supra, at 327. Consistent with Surrey's
goal of expenditure control, both the 1968 and later Treasury Reports,
and the JCT Staff Reports since 1975, have presented tax expenditures
in the same functional categories under which direct expenditures are
classified in the Federal budget.
---------------------------------------------------------------------------
The 1968 Treasury Report did not include a comprehensive
description of the definitions and standards, or the
``generally accepted structure of an income tax,'' that served
as its baseline for the identification of tax expenditures. In
fact, the only features that the 1968 Treasury Report
explicitly included in the ``accepted structure'' of an income
tax are the personal exemptions and graduated rates for
individuals and the existence of a separate corporate tax.
Surrey later observed that the early Treasury Reports had
relied in part on the Haig-Simons definition of personal
income,\8\ but this definition provides only a general
framework for analysis and says nothing about most of the
structural issues that must be decided under any income tax
law, such as the rate structure, the proper taxpaying unit and
the proper accounting period. Surrey therefore refined the
Haig-Simons definition by incorporating what he described as
``widely accepted'' definitions and standards and ``generally
accepted'' structural features. Thus, he treated certain items,
such as the failure to tax imputed rent from owner-occupied
homes, as part of the normal tax baseline ``where the case for
their inclusion in the income base stands on relatively
technical or theoretical tax arguments.'' \9\ His baseline
included the personal exemptions and graduated rates for
individuals, on the grounds that those features were ``part of
the structure of an income tax based on ability to pay,'' \10\
and he included a separate corporate income tax in the baseline
on the grounds that U.S. tax policy had accepted the concept,
notwithstanding strong arguments that integrated taxation of
corporations and shareholders would better implement the Haig-
Simons ideal. Numerous other structural issues were revealed
only through his choices for the list of tax expenditures.\11\
---------------------------------------------------------------------------
\8\ Under this definition, personal income is ``the algebraic sum
of (1) the market value of rights exercised in consumption and (2) the
change in the value of the store of property rights between the
beginning and end of the period in question.'' Henry Simons, Personal
Income Taxation (University of Chicago Press, 1938). Regarding Surrey's
reliance on the Haig-Simons definition, see Stanley S. Surrey and Paul
R. McDaniel, Tax Expenditures, supra, at 3 (``Tax expenditure analysis,
as applied to a particular tax, requires an understanding of the
normative structure of that tax in order to determine whether a
provision is a part of the structural or the tax expenditure component.
In the U.S. analysis of income tax expenditures, the normative concept
of net income is based on the Schanz-Haig-Simons economic definition of
income. . . .'').
\9\ 1968 Treasury Report, supra, at 329.
\10\ 1968 Treasury Report, supra, at 329.
\11\ Some items were omitted from the list for practical reasons,
such as the perceived difficulty of estimating the magnitude of the
subsidy (e.g., accelerated depreciation) or the relatively small size
of the subsidy.
---------------------------------------------------------------------------
Although the Treasury Department substantially abandoned
this original approach during the Reagan Administration in
favor of a ``reference law'' baseline, \12\ the JCT Staff has
used a ``normal tax'' baseline similar to Surrey's since 1975.
As explained in the JCT Staff's 2007 report, the determination
of whether a provision is a tax expenditure has been made on
the basis of a concept of income that is larger in scope than
``income'' as defined under general U.S. Federal income tax
principles. \13\ The features of that normal tax baseline have
been described in detail in each annual report, and the JCT
Staff has used its judgment in distinguishing between those
income tax provisions (and regulations) that can be viewed as a
part of normal income tax law and those special provisions that
result in tax expenditures.
---------------------------------------------------------------------------
\12\ JCT Reconsideration, at 25.
\13\ Joint Committee on Taxation, Estimates of Federal Tax
Expenditures, September 24, 2007 (JCS-3-07).
---------------------------------------------------------------------------
The concept of a normal tax baseline as the underpinning of
tax expenditure analysis has evoked serious and continuous
criticism, however, since its introduction in the late
1960s.\14\ Numerous tax academics and policy experts have
rightly observed that the ideal ``normal'' tax system does not
correspond to any generally accepted formal definition of net
income. Instead, many observers view tax expenditure analysis,
in the form envisioned by Stanley Surrey, as a thinly veiled
agenda for a specific form of tax reform. Under this view, the
normative tax system is not simply an analytical tool but is
also an aspirational goal of the political process.
---------------------------------------------------------------------------
\14\ See, e.g., Boris I. Bittker, Accounting for Federal ``Tax
Subsidies'' in the National Budget, 22 National Tax Journal 244 (1969);
JCT Reconsideration at 29-33.
---------------------------------------------------------------------------
Tax expenditure analysis cannot serve as an effective and
neutral analytical tool if the premise of the analysis (the
validity of the ``normal'' tax base) is not universally
accepted. The ``normal'' tax is admittedly a commonsense
extension (and cleansing) of current tax policies, and not a
rigorous framework developed from first principles. As a
result, the normal tax cannot be defended from criticism as a
series of ultimately subjective or pragmatic choices, and its
use as a baseline has diminished the utility of tax expenditure
analysis.
The JCT Staff has therefore undertaken a reconsideration of
the principles of tax expenditure analysis, in order to improve
the doctrine's utility to policy makers and reemphasize its
neutrality. In A Reconsideration of Tax Expenditure Analysis,
we presented a new approach for the identification and
classification of tax expenditures.\15\ Central to this new
approach is our division of the universe of such provisions
into two main categories: tax expenditures in a narrow sense
(as explained below), which we label ``Tax Subsidies,'' and a
new category that we have termed ``Tax-Induced Structural
Distortions.'' The two categories together cover much the same
ground as the current definition of tax expenditures and in
some cases extend the application of the concept further. The
revised approach does so, however, without relying on a
hypothetical ``normal'' tax to determine what constitutes a tax
expenditure, and without holding up that ``normal'' tax as an
implicit criticism of present law. The result should be a more
principled and neutral approach to the issues. The two
categories of tax expenditures, Tax Subsidies and Tax-Induced
Structural Distortions, are intended to be as transparent and
objective as possible.
---------------------------------------------------------------------------
\15\ JCX-37-08, May 12, 2008.
---------------------------------------------------------------------------
Tax Subsidies
Our approach to Tax Subsidies (that is, tax expenditures in
the narrow sense) builds loosely on the work of Seymour
Fiekowsky and others, by defining a Tax Subsidy as a specific
tax provision that is deliberately inconsistent with an
identifiable general rule of the present tax law (not a
hypothetical ``normal'' tax), and that collects less revenue
than does the general rule.\16\ A negative Tax Subsidy is the
converse case of an exception to the general rule that results
in the collection of more revenue than does the general
rule.\17\ In practice, our conception of the compilation of
general rules that together comprise our baseline for
identifying Tax Subsidies corresponds to the ``reference tax''
baseline that the Treasury Department currently uses in its tax
expenditure analyses.
---------------------------------------------------------------------------
\16\ Fiekowsky, The Relation of Tax Expenditures to the
Distribution of the ``Fiscal Burden,'' 2 Canadian Taxation 211, 215
(1980); see also OMB, The Budget of the United States Government,
Fiscal Year 1983--Special Analyses G-5 (1982).
\17\ Although the Budget Act does not require the identification of
negative tax expenditures, we have presented a number of negative Tax
Subsidies in Section V for completeness and to facilitate understanding
of the Tax Subsidy paradigm.
---------------------------------------------------------------------------
The Tax Subsidy paradigm is constructed by asking what
constitutes the general rule, and what the exception, under
actual present law. Our determination of Tax Subsidies thus is
made, not by reference to an alternative and hypothetical
``normal'' tax chosen by the JCT Staff, but rather by reference
to the general rules of the Internal Revenue Code itself, along
with its legislative history and similar straightforward tools
for identifying legislative intent. This definition does not
require the kinds of normative judgments required to construct
the ``normal'' tax base. It is not, however, automatic in
application. For example, there will be occasional uncertainty
as to whether there is a clear general rule of current tax law.
We have further divided the Tax Subsidy category into three
subcategories with a view to facilitating consensus on the
principles that are relevant to the evaluation of a particular
Tax Subsidy. The first subcategory, Tax Transfers, generally
includes payments made to persons without regard to their
income tax liability, usually because there was no income tax
liability to begin with, or because the person's income tax
liability was eliminated by another Tax Subsidy. In contrast,
Tax Subsidies other than Tax Transfers only reduce (or
increase, in the case of negative Tax Subsidies) a taxpayer's
income tax liability. Tax Transfers are the clearest examples
of hybrid tax/spending programs, i.e., they are essentially
direct government spending programs that use the tax system for
distribution.
The Social Spending subcategory includes both Tax Subsidies
that often are intended to subsidize or induce behavior
unrelated to the production of business income and Tax
Subsidies related to the supply of labor. The charitable
contribution deduction is an example of a provision in this
subcategory.
The third subcategory, Business Synthetic Spending,
includes Tax Subsidies intended to subsidize or induce behavior
directly related to the production of business or investment
income, but excludes any Tax Subsidies related to the supply of
labor. In cases where a provision has potentially both business
and nonbusiness statutory incidence, we classify the provision
based on a judgment about the effect and/or the intent of the
provision. When legislative intent is not readily discernible,
the item generally will be classified according to whether or
not it is linked directly to production of business income.
All Tax Subsidies raise questions of equity, efficiency and
ease of administration. The three subcategories can be useful
to suggest that these factors may have different weights across
the different subcategories. For example, targeting and
incentive effects are likely to be most important in the
evaluation of a Tax Transfer intended to aid low-income
persons. Effects on income distribution may be less important,
however, to the evaluation of a Social Spending provision than
is its efficacy in achieving a specific societal goal. For an
item in the Business Synthetic Spending subcategory, concerns
regarding certainty and economic efficiency may be more
relevant than for items in the other two subcategories.
Tradeoffs among competing goals are a necessity in the design
of any tax provision. The subcategories of Tax Subsidies are
intended simply to assist policymakers in making and
understanding these tradeoffs.
As a result of the new approach, new provisions are
included as Tax Subsidies, such as the ``last in first out''
(LIFO) and ``lower of cost or market'' (LCM) methods of
accounting, the section 164 deduction for foreign taxes,
certain exceptions to the definition of unrelated business
taxable income of exempt organizations, and the allowance of a
deduction under section 212 for investment expenses incurred by
individuals. Examples of negative tax expenditures include the
taxation of gain realized by foreign persons on disposition of
U.S. real property under section 897, and the phaseout of the
personal exemption and disallowance of the personal exemption
and standard deduction against the alternative minimum tax.
Tax-Induced Structural Distortions
Some important provisions identified as tax expenditures
under our old approach cannot easily be described as exceptions
to a general rule of present law. This may be the case because
the general rule is not clear. Alternatively, the provision
itself may constitute the general rule, or at least a key
element of the Code. In either case, such a provision cannot
properly be classified as a Tax Subsidy in the narrower sense
described above. Instead, we have created for these provisions
a second major category of tax expenditures labeled Tax-Induced
Structural Distortions.
Tax-Induced Structural Distortions are structural elements
of the Internal Revenue Code (not deviations from any clearly
identifiable general tax rule and thus not Tax Subsidies) that
materially affect economic decisions in a manner that imposes
substantial economic efficiency costs. While both Tax Subsidies
and Tax-Induced Structural Distortions result in economic
inefficiencies, those distortions cannot be removed in the case
of Tax-Induced Structural Distortions simply by reverting to
the general rule of present law, because Tax-Induced Structural
Distortions are too firmly embedded in the design of present
law to be teased out in this manner.
Importantly, the identification of Tax-Induced Structural
Distortions does not depend simply on the magnitude of their
efficiency costs or on the amount of revenue lost as a result
of the provision. The deduction for home mortgage interest,
discussed in Section II.B.1 below, is arguably one of the
larger tax expenditures in terms of both its revenue cost and
its economic inefficiency. The economic distortions associated
with this provision could be reversed, however, by treating
home mortgage interest in the same manner as other types of
personal interest expense, i.e., as nondeductible under the
general rule of section 163(h). As a result, we classify the
home mortgage interest deduction as a Tax Subsidy, rather than
a Tax-Induced Structural Distortion. (In analyzing the tax
policy issues raised by the deduction, however, we would employ
the same efficiency considerations as might be applied to a
Tax-Induced Structural Distortion along with other relevant
criteria.) \18\
---------------------------------------------------------------------------
\18\ See Joint Committee on Taxation, Tax Expenditures for Health
Care (JCX-66-08), July 30, 2008.
---------------------------------------------------------------------------
In contrast, the ability to defer inclusion for income tax
purposes of certain ``active'' earnings of foreign corporations
owned by U.S. persons is an example of a provision that has
been treated as a tax expenditure, but that is not classified
as a Tax Subsidy under our new approach, because present law is
ambiguous as to what constitutes the general rule for taxing
foreign earnings. Instead, we classify the deferral rules as a
Tax-Induced Structural Distortion. In June of this year, the
JCT Staff published a pamphlet examining the efficiency costs
posed by the current system of deferral and presenting two
paradigmatic alternatives to address these concerns: a dividend
exemption system and a system of full inclusion.\19\
---------------------------------------------------------------------------
\19\ Joint Committee on Taxation, Economic Efficiency and
Structural Analyses of Alternative U.S. Tax Policies for Foreign Direct
Investment (JCX-55-08), June 25, 2008.
---------------------------------------------------------------------------
A second example is the differential treatment of debt and
equity. The distinction between debt and equity is a Tax-
Induced Structural Distortion, because it provides a tax
incentive to business firms to leverage their capital
structures, but it is not a Tax Subsidy because there is no
clear consensus as to what general rule of tax law, if any, the
debt-equity distinction might violate. Moreover, as is the case
for the deferred taxation of the earnings of foreign
corporations, the distortions introduced by the debt-equity
distinction cannot be eliminated simply by reverting to a
general rule; at present, there is no general rule in the Code
for the treatment of the cost of capital.
While tax expenditure analysis can be helpful in
identifying efficiency, equity, ease of administration and
design issues, our definition of Tax-Induced Structural
Distortions focuses only on the substantive criterion of
efficiency. There are at least three reasons for this decision.
First, efficiency is an inherently more neutral construct than
is equity (and possibly simplicity), and our overriding
objective in rethinking tax expenditures is to move to an
approach that most observers can accept as neutral and
principled. Second, most tax expenditures that are particularly
troubling for equity (or other) reasons will be described as
Tax Subsidies. Finally, most of the important structural
ambiguities in the Code today relate to the taxation of capital
income (that is, business or investment income); efficiency
goals loom largest in this context.
In a few cases we have identified items as Social Spending
or Business Synthetic Spending, in addition to discussing them
as Tax-Induced Structural Distortions. We do so partly for
consistency with prior presentations, and partly because
changes that might be made to conform to a more general rule of
the Code would not wholly eliminate the efficiency issues
associated with the structural item. For example, the lower tax
rates for certain capital gains and dividends earned by
individuals could be conformed to the more generally applicable
rates. However, such a change would not eliminate other
structural distortions related to capital gain and loss
recognition, such as deferral and the ability to elect to
recognize losses without recognizing gains, and (pointing in
the other direction) the inability to deduct net capital loss
against ordinary income. Nor would it address certain other
structural issues that have been said to relate in part to the
treatment of capital gains and dividends, such as the lack of
indexation for inflation, the bunching of income resulting from
deferral, and the potential double taxation of corporate income
in the case of dividends or gains with respect to corporate
equity.
Negative tax expenditures vs. compliance or enforcement provisions
As discussed in A Reconsideration of Tax Expenditure
Analysis, special provisions of the tax law that increase the
tax burden above what the general rules would impose constitute
negative tax expenditures. One example of a negative tax
expenditure is section 162(m), which generally disallows
deductions by publicly traded corporations for applicable
remuneration paid to covered employees in excess of $1 million.
Because this provision is an exception to the general rule in
section 162(a)(1), which permits a deduction for ``a reasonable
allowance for salaries or other compensation for personal
services actually rendered,'' and the provision increases the
tax burden on certain publicly traded companies, it is treated
as a negative tax expenditure.\20\
---------------------------------------------------------------------------
\20\ See Section II.B.5 of this pamphlet for a more complete
discussion.
---------------------------------------------------------------------------
In contrast, special provisions of the law the principal
purpose of which is to enforce general tax rules, or to prevent
the violation of other laws, are not treated as negative tax
expenditures even though they may increase the tax burden for
certain taxpayers. For example, section 382, an exception to
the general rule that allows corporate net operating loss
carryforwards to offset current income, was enacted to
``preserve the integrity of the carryover provisions.'' \21\
Section 382 is generally intended to enforce the principle that
losses should not be transferred between taxpayers; thus, it is
not treated as a negative tax expenditure, \21A\ even though it
reduces an otherwise allowable deduction.\22\ Similarly, the
wash sale rules in section 1091, which prevent taxpayers from
recognizing losses when there has been no substantive change in
their property holdings, exist for the purpose of supporting
the integrity of the realization rules and, therefore, are not
treated as a negative tax expenditure.
---------------------------------------------------------------------------
\21\ S. Rep. No. 99-313, 99th Cong. 2d. Sess. at 230 (1986); Joint
Committee on Taxation, General Explanation of the Tax Reform Act of
1986 (JCS-10-87), May 4, 1987, at 294.
\21A\ Accordingly, the exceptions from the loss limitation rules
for corporations in bankruptcy are not treated as tax expenditures
under the new methodology; as they are merely exceptions to the
compliance provision of section 382.
\22\ When section 382 was enacted, the legislative history
explained that the limitations imposed by section 382 apply when
shareholders who bore the economic burden of a corporation's net
operating losses no longer hold a controlling interest in the loss
corporation. ``In such a case, the possibility arises that new
shareholders will contribute income-producing assets (or divert income
opportunities) to the loss corporation, and the corporation will obtain
greater utilization of its carryforwards than it could have had there
been no change in ownership.'' S. Rep. No. 99-313, supra, at 232;
General Explanation of the Tax Reform Act of 1986, supra, at 295.
---------------------------------------------------------------------------
Likewise, tax rules designed to support the enforcement of
other laws are not treated as negative tax expenditures. For
example, section 1287, which denies capital gains treatment for
certain obligations not in registered form, is not treated as a
negative tax expenditure. Section 1287 was enacted (along with
other provisions) to make bearer bonds less attractive and
thereby reduce the volume of readily negotiable substitutes for
cash available to persons engaged in illegal activities.\23\
Similarly, the section 162(f) disallowance of a deduction for
fines and penalties, even those that might be viewed as
ordinary and necessary business expenses, is not a negative tax
expenditure. Permitting a deduction of a fine or penalty,
effectively reducing the burden on the business on which such
fine or penalty is imposed, would undermine the policy that led
to the imposition of the fine or penalty; the disallowance of
the deduction backstops the penalty policy and is not treated
as a negative tax expenditure.
---------------------------------------------------------------------------
\23\ S. Rep. No. 97-494 (Vol. 1), at 242 (1982); Joint Committee on
Taxation, General Explanation of the Revenue Provisions of the Tax
Equity and Fiscal Responsibility Act of 1982 (JCS-38-82), December 31,
1982, at 190.
II. TAX SUBSIDIES
A. Tax Transfers
The Tax Transfer subcategory comprises the seven provisions
in the Code that provide for refundable tax credits. In
general, tax credits provide a dollar for dollar reduction in a
taxpayer's tax liability, and the benefit of a tax credit
typically is limited to tax liability. Thus, if the amount of
tax credits available to a taxpayer exceeds the amount of such
taxpayer's tax liability, the excess normally is not refunded
to the taxpayer (although the excess sometimes may be carried
to another year in which the taxpayer has tax liability). In
the case of a ``refundable tax credit,'' that is, a tax credit
that is refundable to a taxpayer in excess of such taxpayer's
tax liability, the payment to the taxpayer of the amount by
which the credit exceeds the taxpayer's tax liability is
effectively a transfer payment from the government to the
taxpayer.
The Tax Transfer provisions are examples of hybrid tax/
spending programs; each is essentially a direct spending
program that uses Code concepts to determine eligibility for
the refund and tax system infrastructure to deliver funds. Five
of the Tax Transfer items (the portions of the child tax
credit, earned income tax credit, recovery rebate credit,
credit for purchase of health insurance by certain displaced
persons, and the first-time homebuyer credit that are
refundable in excess of tax liability) are based on perceived
needs of individuals as measured by income. In most cases,
these credits are phased out for higher-income taxpayers. The
other two Tax Transfer items (a provision enabling certain
corporations to monetize AMT credits and research credits and
the refund of the deemed tax payment to the allocatee of
qualified forestry conservation bond limitation) are in effect
transfer payments to businesses. To the extent a portion of a
refundable tax credit offsets tax liability, that portion is
not treated as a Tax Transfer but is treated as Social Spending
or Business Synthetic Spending.
Tax transfers to individuals
Section 24, the child tax credit, provides a tax credit of
$1,000 for each qualifying child under the age of 17 of a
taxpayer. Section 32, the earned income credit, provides a
credit to certain low and moderate income workers. Eligibility
for the earned income credit is based on earned income,
adjusted gross income, investment income, filing status, and
immigration and work status in the United States. The amount of
the credit is based on the presence and number of qualifying
children in the worker's family, as well as on adjusted gross
income and earned income. Section 6428 provides for the taxable
year beginning in 2008 a ``recovery rebate'' for individuals.
The amount of the rebate is a function of several variables
(e.g., filing status, number of children, and the amount of
qualifying income). Section 35 provides a credit for 65 percent
of the health insurance costs of eligible recipients of trade
adjustment allowances under the Trade Act of 1974 and eligible
Pension Benefit Guaranty Corporation pension recipients.
Section 36 provides a credit of up to $7,500 to first-time
homebuyers. The first-time homebuyer credit is recaptured over
15 years and is effectively an interest-free, 15-year loan to
the first-time homebuyer. All of the Tax Transfers to
individuals are credits that are refundable in excess of the
taxpayer's tax liability.
Tax transfers to businesses
Section 168(k)(4) allows corporations to elect to increase
the limitation under section 38(c) on the use of research
credits or section 53(c) on the use of minimum tax credits in
lieu of taking a special depreciation deduction for certain
property. The increases in the allowable credits are refundable
in excess of tax liability. In effect, this provision permits
certain corporations to ``monetize'' AMT and research tax
credits. The result is a transfer payment from the government
to eligible corporations. Because all of the revenue loss from
the provision is attributable to the monetization of research
tax credits, the line item on Table 1 is labeled ``Refundable
research tax credits,'' and there is no reference to AMT
credits.\24\ Section 54B(h)(1) allows a qualified issuer that
receives an allocation of qualified forestry conservation bond
limitation to elect to be treated as if it had made a tax
payment in the prior year equal to 50 percent of its allocation
of such limitation. Section 54B(h)(2) provides that the
Secretary may not use the deemed tax payment as an offset or
credit against any tax liability of the qualified issuer and
requires the Secretary to refund such deemed payment to the
qualified issuer. In effect, the provision allows qualified
issuers to elect to receive a transfer payment. Although
businesses cannot be qualified issuers (only States, political
subdivisions or instrumentalities of States, and section
501(c)(3) organizations are qualified issuers), the transfers
likely benefit businesses by facilitating the sale of land from
businesses to qualified issuers.
---------------------------------------------------------------------------
\24\ In addition, the AMT portion of the provision represents a
refund of previously paid taxes, and is distinguishable from the
research and development credit acceleration in this respect.
---------------------------------------------------------------------------
B. Social Spending Examples
1. Deduction for mortgage interest on owner-occupied residences
The line item for ``deduction for mortgage interest on
owner-occupied residences'' comprises the deductions permitted
by section 163(h)(2)(D) and (h)(3) for ``qualified residence
interest'' that is paid or accrued on ``acquisition
indebtedness'' and ``home equity indebtedness.'' Acquisition
indebtedness is indebtedness (up to a maximum of $1 million)
that is incurred in acquiring, constructing, or substantially
improving any qualified residence of the taxpayer, and is
secured by such residence; home equity indebtedness includes
any other indebtedness (up to a maximum of $100,000) that is
secured by a qualified residence.\25\
---------------------------------------------------------------------------
\25\ Sec. 163(h)(3). Qualified residence interest also includes
certain premiums paid for qualified mortgage insurance.
---------------------------------------------------------------------------
The deduction for mortgage interest on owner-occupied
residences is an exception to the Code's general rule of non-
deductibility for personal interest, reflected in the section
163(h) denial of a deduction for ``personal interest''
expense.\26\ Personal interest is defined in section 163(h)(2)
to include any interest that would otherwise be allowable as a
deduction, but to exclude (in addition to qualified residence
interest) interest paid or accrued on indebtedness properly
allocable to a trade or business (other than the trade or
business of performing services as an employee), investment
interest described in section 163(d), and interest taken into
account under section 469 in computing income or loss from a
passive activity. Thus, for individuals, sections 163(h)(1) and
(h)(2) evidence a general rule under which interest expense is
not deductible unless it is associated with the production of
business or investment income. (More broadly, sections 163(h),
212 and 262, among others, can be said to evidence a general
rule for individuals that expenses associated with the
production of income are deductible from gross income, while
personal, living, and family expenses generally are not.) \27\
For that reason, the deduction for mortgage interest is treated
as a tax expenditure under the revised tax expenditure
definition.\28\ The deduction was also classified as a tax
expenditure under the prior JCT Staff approach, but on the
basis that it was an exception to the ``normal'' income tax
principle that individuals may deduct only the interest on
indebtedness incurred in connection with a trade or business or
an investment.\29\
---------------------------------------------------------------------------
\26\ Exclusions are also provided for interest payable under
section 6601 with respect to delayed payments of estate tax and
interest allowable as a deduction under section 221 with respect to
certain educational loans.
\27\ See section 212 (allowing a deduction for ordinary and
necessary expenses of an individual for the production or collection of
income) and section 262 (denying deductions for personal, living, and
family expenses except where expressly provided by the Code).
\28\ The $1 million cap on acquisition indebtedness and the
$100,000 cap on home equity indebtedness are considered reductions in
the mortgage interest tax expenditure and are not treated as negative
expenditures.
\29\ Joint Committee on Taxation, Estimates of Federal Tax
Expenditures for Fiscal Years 2007-2011 (JCS-3-07), September 24, 2007,
at 5. Both the Code itself and the ``normal'' tax principles underlying
the prior JCT approach to tax expenditures deviate from a pure Haig-
Simons definition of income by excluding imputed income from owner-
occupied housing (that is, an amount equal to the rent that the
taxpayer would pay for the residence to a third party in an arm's-
length transaction). Under the Haig-Simons definition of taxable
income, a deduction would also be permitted for interest on
indebtedness incurred to acquire or carry the residence, as a cost of
producing the imputed income. However, the exclusion of imputed income
from owner-occupied housing has long been viewed as an administrative
necessity, because it is too difficult to measure. The second-best
solution (from the perspective of tax administration) is to both
exclude the imputed income and deny any deduction for home mortgage
interest. Both the general rules of the Code and the ``normal'' tax
underlying the prior JCT Staff approach reflect this second-best
solution.
---------------------------------------------------------------------------
As discussed in A Reconsideration of Tax Expenditure
Analysis, owner-occupied housing preferences such as the
mortgage interest deduction could rationally be categorized
either as Social Spending or Business Synthetic Spending,
depending on whether one views home ownership as primarily a
consumption activity or as a substitute for an income-producing
investment.\30\ On balance, we believe that they are better
described as Social Spending. Because the Code ignores imputed
income from owner-occupied housing, our categorization gives
minimal weight to the substitutability of owner-occupied
housing for an income-producing investment. Moreover, treating
the home mortgage interest tax expenditure as Social Spending
acknowledges that preferences for owner-occupied housing
reflect a social policy agenda that transcends the tax law.\31\
Finally, while preferences such as the mortgage interest
deduction undoubtedly provide a benefit to some types of
businesses (home builders and real estate agents, for example),
we believe that the benefits to these groups are a secondary
result of a policy primarily intended to benefit individual
homeowners.
---------------------------------------------------------------------------
\30\ JCT Reconsideration, at 45.
\31\ See, e.g., H.R. Rep. 99-426, 99th Cong. 1st Sess. (December 7,
1985), at 297 and S. Rep. 99-313, 99th Cong. 2nd Sess. (May 29, 1986),
at 804 (``encouraging home ownership is an important policy goal,
achieved in part by providing a deduction for residential mortgage
interest'').
---------------------------------------------------------------------------
Owner-occupied housing preferences reflect social policies,
but also raise very important economic efficiency concerns. We
classify these preferences as Tax Subsidies, rather than Tax-
Induced Structural Distortions, solely because these items can
be identified as exceptions to a clear general rule (the
nondeductibility of expenses for personal consumption). This
classification is not intended to detract from analysis of
these preferences as having material economic efficiency
consequences for the capital stock of the United States.
2. Exclusion of employer-provided health care benefits
The exclusion for employer-provided health care is the
largest Tax Subsidy \32\ and represents by far the largest
portion of total tax expenditures for health.\33\ In part, this
is because there is no dollar limit on the amount of employer-
provided health coverage that is excludable from gross income.
An employee can exclude from income both employer-provided
accident or health insurance under section 106(a) and employer-
reimbursed medical expenses under section 105(b).\34\ The
exclusion applies both where employers absorb the cost of their
employees' medical expenses not covered by insurance (i.e., a
self-insured plan) and where employers pay all or a portion of
the health insurance premiums for their employees. Active
employees participating in a cafeteria plan may also pay their
share of premiums on a pre-tax basis through salary reductions,
which are treated as employer contributions and are also
excluded from gross income under section 106(a).
---------------------------------------------------------------------------
\32\ The line item for ``Exclusion of employer contributions for
health care, health insurance premiums, and long-term care insurance
premiums'' in Table 2 includes the exclusion of employer- provided
accident or health insurance, the exclusion of employer-reimbursed
medical expenses, health reimbursement arrangements and flexible
spending arrangements. The JCT Staff method for measuring the tax
expenditure for this exclusion differs from that of the Treasury
Department, as the JCT Staff method includes the effects of ``tax form
behavior.'' In particular, the JCT Staff method assumes that when
taxpayers are denied an exclusion for employer-provided health care,
they will deduct the expenses under section 213 to the extent that
those expenses exceed 7.5 percent of adjusted gross income.
\33\ See Joint Committee on Taxation, Tax Expenditures for Health
Care (JCX-66-08), July 30, 2008, for a comprehensive discussion of
these provisions.
\34\ Section 7702B(a) specifies that long-term care contracts are
treated as accident and health insurance contracts and are thus
eligible for exclusion under section 106(a). Section 7702B(b) specifies
that amounts received under eligible long-term care contracts are
treated as amounts received for personal injuries and sickness and thus
are eligible for exclusion under section 105(b).
---------------------------------------------------------------------------
The Tax Subsidy included in this line item also includes
health reimbursement arrangements (``HRAs'') and flexible
spending arrangements (``FSAs''). HRAs are employer-maintained
arrangements that reimburse employees for medical expenses.
Coverage under an HRA is excludable under 106(a), and benefits
paid pursuant to an HRA are excludable under section 105(b).
Flexible spending arrangements (``FSAs'') are typically funded
on a salary reduction basis under a cafeteria plan that
satisfies section 125. The compensation that is forgone as well
as the reimbursements for medical care paid from FSAs are
excluded from gross income.
The exclusion from gross income for employer-provided
health care benefits is an exception to the Code's general rule
that all compensation for services constitutes gross
income.\35\ The value of health care benefits that an employer
provides to its employees constitutes gross income to each
employee in this general sense. Fringe benefits are included in
an employee's gross income unless specifically excluded under a
provision in the Code.\36\ For this reason, the provisions that
exclude employer-provided health care benefits from income are
exceptions to the general rule and are Tax Subsidies under our
revised classification.\37\
---------------------------------------------------------------------------
\35\ Under section 61(a)(1), gross income includes ``compensation
for services, including fees, commissions, fringe benefits, and similar
items.''
\36\ See Treas. Reg. sec. 1.132-6(c) (``the value of any fringe
benefit that would not be unreasonable or administratively
impracticable to account for is includible in the employee's gross
income'').
\37\ This exclusion was also included as a tax expenditure under
the prior JCT approach, but on the basis that it was an exception to
the ``normal'' tax principle that all employee compensation is
includable in gross income. Joint Committee on Taxation, Estimates of
Federal Tax Expenditures for Fiscal Years 2007-2011 (JCS-3-07),
September 24, 2007, at 3. Under the prior JCT methodology, the normal
structure of the individual income tax included the assumption that
``[a]ll employee compensation is subject to tax unless the tax code
contains a specific exclusion for the income.'' Id. ``Under normal
income tax law, the value of employer-provided accident and health
coverage would be includable in the income of employees, but employers
would not be subject to tax on the accident and health insurance
benefits (reimbursements) that they might receive.'' Id. at 4, footnote
7.
---------------------------------------------------------------------------
As discussed in A Reconsideration of Tax Expenditure
Analysis, fringe benefits could rationally be categorized
either as Social Spending or as Business Synthetic Spending. We
have included the exclusion for employer-provided health care
in the Social Spending category, however, rather than in the
Business Synthetic Spending category, because the exclusion is
generally viewed as affecting labor supply more than general
business decisions.\38\ The exclusion of employer-provided
health care can be traced back to the 1940's, when employers
offered fringe benefits in order to attract labor in a period
of tight wage controls. Legislative and executive branch
histories of the enactment and implementation of these
exclusion provisions support the argument that these provisions
were adopted primarily to affect the price and supply of
labor.\39\ In addition, the legislative history of more
recently enacted health care related tax provisions supports
the conclusion that Congressional intent is to assist in the
provision of health coverage, rather than to subsidize or
induce behavior directly related to the production of business
income.\40\
---------------------------------------------------------------------------
\38\ See JCT Reconsideration at 45.
\39\ Sections 105 and 106 were added with the 1954 revision of the
Internal Revenue Code. Prior to the revision, payments made under a
contract of insurance were exempt under the employer pension provisions
of the Code. The addition of sections 105 and 106 granted ``equal tax
treatment to sickness and accident benefits financed by employers
whether paid under insured and noninsured plans.'' H.R. 8300, as
reported by the House Committee on Ways and Means; H.R. Rep. 1337, 83d
Cong. 2d Sess. (March 9, 1954), at 15.
\40\ An example is the enactment of a deduction for self-employed
health insurance in the Tax Reform Act of 1986. The Senate Finance
Committee reported that ``Congress was aware that access to employer
health plans is lowest with small employers. . . . The need for
adequate health coverage is so important that Congress believed it was
essential to encourage a narrowing of the gap in health coverage.''
H.R. 3838, as reported by the Senate Committee on Finance; S.Rep 99-
313, 99th Cong. 2d Sess. (May 29, 1986), at 666.
---------------------------------------------------------------------------
3. Exclusion of interest on State and local bonds
The exclusion from gross income provided in section 103 for
interest on State and local bonds is a major exception to the
general rule of section 61 that interest is includible in gross
income. This exclusion is not required by the U.S.
Constitution; \41\ instead, its principal purpose is to serve
as a federal subsidy to State and local governments.\42\ By
exempting interest on State and local bonds from Federal income
tax, and thereby increasing the after-tax yield on such bonds,
Congress enables the State and local issuers to pay lower
interest rates to holders of the bonds. As a result, State and
local governments can finance various projects at a reduced
cost.
---------------------------------------------------------------------------
\41\ In 1988, the U.S. Supreme Court rejected the argument that the
doctrine of intergovernmental tax immunity prevents Congress from
taxing interest on State and local bonds. See South Carolina v. Baker,
485 U.S. 505, 524-525 (1988) (``We see no constitutional reason for
treating persons who receive interest on government bonds differently
than persons who receive income from other types of contracts with the
government, and no tenable rationale for distinguishing the costs
imposed on States by a tax on state bond interest from the costs
imposed by a tax on the income from any other state contract.'')
\42\ In practice, the exclusion also subsidizes higher-bracket
investors. See Joint Committee on Taxation, Present Law and Issues
Relating to Infrastructure Finance (JCX-83-08), October 24, 2008, at
21-27. To this extent, the Tax Subsidy might be characterized as
Business Synthetic Spending. We believe it impractical, however, to
divide the Tax Subsidy along these lines.
---------------------------------------------------------------------------
The exclusion for each type of tax exempt bond or tax
credit bond is treated as a Tax Subsidy and is categorized as
Social Spending or Business Synthetic Spending based on the
purpose for which the exclusion was granted, as evidenced by
the types of activities permitted to be financed through the
issuance of that type of bond. Where a single type of bond can
finance multiple kinds of activities or issuers, the
classification is based on the predominate type of activity or
issuer that is subsidized. Bonds that primarily finance
governmental functions or benefit not-for-profit users are
classified as Social Spending. Bonds that support borrowers
that are in private, for-profit businesses are classified as
Business Synthetic Spending.
The Tax Subsidies for the following types of tax-exempt and
tax credit bonds are classified as Social Spending:
Clean renewable energy bonds (including New
CREBs); \43\
---------------------------------------------------------------------------
\43\ CREBs and New CREBs are treated as social spending because
two-thirds of the allocation goes to government bodies and public
power.
---------------------------------------------------------------------------
Qualified energy conservation bonds; \44\
---------------------------------------------------------------------------
\44\ In the case of qualified energy conservation bonds, 70 percent
of the allocation is used for what would otherwise be governmental
bonds.
---------------------------------------------------------------------------
Qualified private activity bonds for owner-
occupied housing; \45\
---------------------------------------------------------------------------
\45\ Proceeds from the issuance of these bonds are used to finance
loans to individual homeowners.
---------------------------------------------------------------------------
Qualified private activity bonds for student
loans;
Qualified zone academy bonds; \46\
---------------------------------------------------------------------------
\46\ The proceeds from these bonds go to public schools.
---------------------------------------------------------------------------
Qualified private activity bonds for private
nonprofit and qualified public educational facilities;
\47\
---------------------------------------------------------------------------
\47\ The relevant provisions provide for the issuance of section
501(c)(3) bonds for education (nonprofit) and section 142 bonds for
qualified public educational facilities (part of a public school owned
by a private, for-profit corporation). Because the bulk of the cost
relates to nonprofits, we categorize the item as Social Spending
(although a portion could be categorized as Business Synthetic
Spending).
---------------------------------------------------------------------------
Qualified private activity bonds for private
nonprofit hospitals;
Private activity bonds for veteran's
housing; and \48\
---------------------------------------------------------------------------
\48\ Proceeds from the issuance of these bonds are used to finance
loans to individual homeowners.
---------------------------------------------------------------------------
Public purpose State and local governmental
bonds.
The Tax Subsidies for the following types of tax exempt and
tax credit bonds are classified as Business Synthetic Spending:
Qualified private activity bonds for rental
housing;
Small issue qualified private activity
bonds;
Qualified private activity bonds for green
buildings and sustainable design projects;
Qualified private activity bonds for highway
projects and rail-truck transfer facilities; \49\
---------------------------------------------------------------------------
\49\ While highway projects typically are governmental, the
projects financed by these bonds are owned and/or operated by private
entities.
---------------------------------------------------------------------------
Qualified private activity bonds for
airports, docks and mass-commuting facilities;
Qualified private activity bonds for energy
production facilities; and
Qualified private activity bonds for sewage,
water and hazardous waste facilities.
4. Deduction for nonbusiness State and local government income taxes,
sales taxes, and personal property taxes
Section 164 provides a deduction for certain state and
local personal property taxes, real property taxes, and sales
taxes paid by both business and nonbusiness taxpayers. We treat
only the deductions allowed to nonbusiness taxpayers as tax
expenditures.\50\
---------------------------------------------------------------------------
\50\ The deduction for real property taxes by nonbusiness taxpayers
is carried as a separate line item: ``deduction for property taxes on
real property.''
---------------------------------------------------------------------------
Section 164 can be seen as providing both an explication of
and an exception to the general rule of sections 162 and 212,
under which expenses are deductible to the extent that they are
ordinary and necessary expenses of a business or are directly
related to the production of income. With respect to State and
local taxes paid in connection with a trade or business or in
connection with an income producing activity, section 164
arguably provides duplicative authority for a deduction that is
already authorized by section 162 or 212, respectively. The
first sentence in the flush language in section 164(a) provides
support for this reading by clarifying that taxes not
enumerated in section 164 are deductible if they are an expense
described in section 162 or 212: ``[i]n addition, there shall
be allowed as a deduction State and local, and foreign, taxes
not described in the preceding sentence which are paid or
accrued within the taxable year in carrying on a trade or
business or an activity described in section 212 (relating to
expenses for production of income).'' Thus, the plain language
of the Code acknowledges that business-related taxes do not
necessarily require special enumeration in section 164 to be
deductible. Nonbusiness taxes, however, are only deductible to
the extent provided in section 164. Because nonbusiness taxes
require a special rule authorizing their deductibility, the
deductions are Tax Subsidies.\51\
---------------------------------------------------------------------------
\51\ The Treasury Department, using a reference law baseline,
justifies treating the nondeductibility of nonbusiness State and local
taxes other than on owner-occupied homes as a tax expenditure by noting
that ``taxpayers may deduct State and local income taxes and property
taxes even though these taxes primarily pay for services that, if
purchased directly by taxpayers, would not be deductible.'' Analytical
Perspectives, Budget of the United States Government, Fiscal Year 2009,
at 316. Treasury acknowledges, however, that this analysis is
undermined by the somewhat tenuous nature of the link between the
amount of State and local taxes paid and State and local services
consumed. See id.
---------------------------------------------------------------------------
We classify the deduction for nonbusiness State and local
income, sales, and personal property taxes as Social Spending,
because it is not directly connected with the production of
income. The deduction can also be viewed, however, as a means
of sharing revenue with State and local governments, by
enabling those governments to impose taxes at higher rates than
might otherwise be acceptable if such taxes were not deductible
for Federal income tax purposes.\52\ To the extent that State
and local tax revenues are used to subsidize business
activities (as opposed to providing services to persons other
than businesses), we recognize that a deduction that makes such
taxes more palatable might be seen as a subsidy for income
producing activities. Nevertheless, because there is no direct
link between the deduction in section 164 for nonbusiness State
and local income, sales, and personal property taxes and State
and local spending on businesses, we do not attempt to break
out business-subsidy effects or to split the item between the
Social Spending and Business Synthetic Spending categories.
---------------------------------------------------------------------------
\52\ A 1964 Senate Finance Committee Report notes that the
deduction for State and local taxes is an important means of
accommodation to take into account the fact that both State and local
governments on one hand and the Federal government on the other hand
tap the same important revenue source. See S. Rep. 88-830, 88th Cong.,
2d Sess., reprinted in 1964-1 C.B. (pt. 2) 505, 558. The report
concludes that a failure to provide deductions for such taxes could
mean a combined burden of income taxes which in some cases would be
extremely heavy. Id.
---------------------------------------------------------------------------
5. Section 162(m)
As noted in Section I, we treat section 162(m), which
disallows deductions by publicly traded corporations for
applicable remuneration paid to covered employees in excess of
$1 million, as a negative tax expenditure. Section 162(m) is an
exception to the general rule in section 162(a)(1), which
permits a deduction for the ordinary and necessary expenses of
a business, including ``a reasonable allowance for salaries or
other compensation for personal services actually rendered.''
Because the special rule in section 162(m) may have the effect
of increasing the tax burden on certain publicly traded
companies, we treat it as a negative tax expenditure.
The stated purpose of section 162(m) is to effect a
reduction in executive compensation, a social policy related to
the distribution of income and not to its production;
accordingly, we classify section 162(m) as Social Spending.\53\
Other negative tax expenditures that impose limits on the
deductibility of executive compensation, e.g., section 280G,
denying a deduction for any ``excess parachute payment,''
evidence a similar social policy and are thus classified in the
same manner.
---------------------------------------------------------------------------
\53\ See Reconciliation Recommendations of the Committee on Ways
and Means, Ways and Means Committee Print 103-11 (May 18, 1993)
(``Recently, the amount of compensation received by corporate
executives has been the subject of scrutiny and criticism. The
committee believes that excessive compensation will be reduced if the
deduction for compensation (other than performance-based compensation)
paid to the top executives of publicly held corporations is limited to
$1 million per year.'')
---------------------------------------------------------------------------
C. Business Synthetic Spending Examples
1. Last in First Out (``LIFO'') method of inventory accounting
The Code generally does not permit the indexing of income
for inflation, or the deferral of income recognition, due to
increases in the value of a taxpayer's assets, when property is
in fact sold for cash.\54\ The allowance of the last in first
out (``LIFO'') method of accounting for inventory is an
exception to the general Code rules for tax accounting. We
treat the allowance of the LIFO method as a Tax Subsidy because
it is inconsistent with the Code's general implementation of
the realization principle. Within the larger category of Tax
Subsidies, we categorize the LIFO method as Business Synthetic
Spending, because it benefits a select group of business
taxpayers.
---------------------------------------------------------------------------
\54\ The indexing of rate brackets does not specifically allow the
exclusion or deferral of income and is only an indirect method of
addressing inflation. The allowance of a lower rate on certain capital
gains has been described as a partial relief from inflation, but it is
not targeted to that effect.
---------------------------------------------------------------------------
Treasury regulations under section 471 require businesses
to use inventory accounting if the production, purchase, or
sale of merchandise is an income producing factor.\55\ The
purpose of inventory accounting is to match the costs of items
purchased (or manufactured) at different times with the
proceeds of items sold during the year, in order to determine
taxable income for the year and determine the cost for tax
purposes of the inventory on hand at the end of one year and
start of the next. The regulations permit a number of different
methods including the first in first out (``FIFO'') method that
matches sales of items during the year with the cost of the
earliest acquired (and typically least expensive) items of
inventory. As a factual presumption, it is likely that firms
endeavor to sell their earliest produced items of inventory, to
minimize ``staleness'' and similar issues.
---------------------------------------------------------------------------
\55\ Section 471 authorizes the Secretary of the Treasury to
``require the use of inventories when necessary to determine the income
of any taxpayer, on such basis as the Secretary may prescribe
conforming as nearly as may be to the best accounting practices in the
trade or business, and as most clearly reflecting income.''
---------------------------------------------------------------------------
Section 472 of the Code authorizes the LIFO method of
accounting.\56\ This method has the effect of treating the most
recently purchased (or manufactured) goods as having been sold
during the year, by matching sales revenue during the year with
the cost of the most recently acquired (and typically the most
expensive) items of inventory. A taxpayer takes into account
the costs of earlier-acquired items only to the extent that it
has reduced its inventory at year end below its inventory at
the prior year end (resulting in greater gain, if those earlier
costs were lower than the more recent costs). Among other
requirements, the availability of the LIFO method is
conditioned on a taxpayer employing that method for financial
accounting purposes as well; Congress believed that the
resulting tension between a taxpayer's desire to minimize tax
liability and the taxpayer's desire to present its financial
results in the most favorable light possible would serve to
minimize the attractiveness of the LIFO method for tax
purposes.\57\
---------------------------------------------------------------------------
\56\ The predecessor of Section 472, permitting the LIFO method to
be used by any taxpayer, in accordance with regulations prescribed by
the Secretary, was added to the Code in 1939. Prior to that time, the
method was allowed under 1938 law only in limited industries. See S.
Rep. No. 648, 76th Cong., 1st Sess., 1939-2 C.B. 524, 528; H.R. Rep.
No. 2330, 75th Cong. 3d Sess., 1939-1 C.B. 817, 819. Even after the
general provision was enacted, the rules under regulations evolved over
time to expand the types of items and the nature of LIFO pools that are
permitted. See, e.g., Tovig and Herndon, Inventories: General
Principles; LIFO Method, BNA Tax Management Portfolios 578-3rd at A-47
et seq. Section 473 provides additional rules for ``qualified
liquidations'' of LIFO inventories, and section 473 provides a
simplified dollar-value LIFO method for certain small businesses.
\57\ Secs. 472(c) and 472(g); see S. Rep. No. 648, 76th Cong., 1st
Sess., 1939-2 C.B. 524, 528; see also H.R. Rep. 98-432 (Part 2), 98th
Cong., 2d Sess. (March 5, 1984) at 1381-1382; S. Rep. 98-169 (Vol. I).
98th Cong., 2d Sess. (April 2, 1984) at 486-487; and H.R. Rep. 98-861,
98th Cong., 2d Sess. (June 23, 1984) at 897-898.
---------------------------------------------------------------------------
The LIFO method in effect allows the deferral of income
attributable to any increase in the price of goods since the
earliest inventory items were acquired. In practice, this
deferral often extends for many decades.\58\ Moreover, this
deferral is available only to taxpayers that maintain
inventories, and that are not required to employ a different
accounting method in respect of those inventories. (Dealers in
securities, for example, maintain inventories but may not use
the LIFO method.) The LIFO method deviates from the Code's norm
of requiring an annual accounting for accretions in wealth, as
measured by actual realization events. It has been said that
the purpose of the LIFO method is to adjust for inflation, but
the LIFO method also defers the recognition of income that is
attributable to factors other than inflation, such as price
increases due to increased demand or advances in product
quality. The Code does not provide a similar adjustment for
inflation or increased costs against the income of taxpayers
that cannot keep inventories of tangible goods using the LIFO
method. The LIFO method thus favors a relatively small segment
of taxpayers in particular types of industries. Moreover, the
use of this method may contribute to inefficient behavior by
taxpayers who use LIFO, such as the retention of inventories at
higher levels than they otherwise might choose, to avoid
invading LIFO ``layers'' and matching lower, earlier years'
incurred costs against current sale proceeds.\59\
---------------------------------------------------------------------------
\58\ See, e.g., Leslie J. Schneider, Federal Income Taxation of
Inventories, at section 10.01[1] (2007): ``Theoretically, use of the
LIFO method results only in a deferral of taxes. However, as long as
inflation continues and a taxpayer's LIFO inventories remain relatively
constant or increase in size, the tax deferral is perpetual and tends
to become `permanent.' ''
\59\ See Edward D. Kleinbard, George A. Plesko, and Corey M.
Goodman, Is it Time to Liquidate LIFO? 113 Tax Notes 237 (Oct. 16,
2006); Micah Frankel and Robert Trezevant, The Year-End LIFO Inventory
Purchasing Decision: An Empirical Test, 69 Accounting Review 382
(1994). In certain extreme situations, such as purported acquisitions
that did not amount to real ownership, or acquisitions of items that
clearly were not intended for use in the business, courts have
disallowed the addition of the items to inventory for LIFO purposes.
However, those cases do not address less dramatic actions such as
simply avoiding a shift to a more efficient inventory practice that
might reduce ending inventory, such as ``just in time'' inventory
management. For some of the cases and for arguments made in favor of
the LIFO method, see The LIFO Coalition, Memorandum to Senators Charles
E. Grassley and Max Baucus, June 26, 2006 (2006 TNT 125-18).
---------------------------------------------------------------------------
2. Tax credits for electricity production from renewable resources
Section 45 provides a tax credit for the production of
electricity at qualified facilities from certain renewable
resources, including wind, closed-loop biomass, open-loop
biomass, geothermal energy, solar energy, small irrigation
power, municipal solid waste, and qualified hydropower
production.\60\ Qualified facilities are, generally, facilities
placed in service prior to a designated sunset date that
generate electricity using qualified renewable resources. The
amount of the credit varies depending on the type of renewable
resource: electricity produced at wind, closed-loop biomass,
geothermal, and solar facilities receives twice the credit rate
relative to electricity produced at facilities using other
renewable resources. Depending on the resource and the date a
qualified facility was placed in service, the credit is
available for five or ten years from the placed-in-service
date. To be eligible for the credit, the taxpayer must sell the
electricity to an unrelated person. The amount of the credit is
phased out as the market price of electricity exceeds certain
threshold levels.
---------------------------------------------------------------------------
\60\ Section 45 also provides a credit for the production of coke
feedstock and certain types of coal.
---------------------------------------------------------------------------
We treat the tax credit for production of electricity from
renewable resources (and virtually all other tax credits in the
Code) as a Tax Subsidy.\61\ Section 45 credits arise in
connection with the conduct of a taxpayer's trade or business,
and are made available to the producer only where the taxpayer
sells electricity to an unrelated party. To reflect the fact
that the credit is made available to businesses to subsidize an
income-producing activity, we place the credit in the Business
Synthetic Spending subcategory. Energy Tax Subsidies that are
claimed by consumers (e.g., the tax credits for energy
efficiency improvements to existing homes and alternative
technology vehicles) are treated as Social Spending.
---------------------------------------------------------------------------
\61\ The foreign tax credit is the one exception to this rule. We
treat the foreign tax credit, which is intended to eliminate double
taxation of foreign-source income of U.S. taxpayers, as a provision
that effectuates a general rule of the Code.
---------------------------------------------------------------------------
Our categorization of section 45 production tax credits as
Business Synthetic Spending, and, more generally, all of our
categorizations of energy Tax Subsidies are not intended to
suggest any conclusions as to the economic incidence of those
Tax Subsidies, or their underlying policy goals. Arguments can
be made, for example, that the section 45 credit ought to be
treated as Social Spending, insofar as a policy subsidizing
electricity production from renewable resources appears to help
reduce the country's dependence on fossil fuels and thus might
be viewed as desirable for national defense or environmental
reasons (policies one might consider ``social'' as opposed to
``business''). On the other hand, the energy credits that are
claimed by consumers might be viewed as subsidies to businesses
based strictly on their economic incidence; for example, a car
maker might be able to charge a higher price for a hybrid
vehicle because of the availability of a tax credit to the
purchaser. In every case, the subcategories of Tax Subsidies
that we employ are intended simply to assist the Congress in
comparing like Tax Subsidies to one another.
3. Tax exemption for certain organizations
Since the inception of the Federal income tax, Congress has
exempted certain types of organizations from taxation. The
benefit of tax exemption is extended under the Code to groups
as diverse as charitable organizations, social welfare
organizations, mutual or cooperative telephone and electric
companies, small non-life insurance companies, cemetery
companies, and credit unions. Section 501(a) is the operative
provision of the Code providing tax exemption for organizations
described in sections 401(a), 501(c), and 501(d).
For governmental organizations and entities organized
exclusively for charitable, religious, educational, or like
purposes, the general rule of tax exemption may be explained
based on the nature of the organization's activities. These
organizations are not subject to tax under the general tax
rules as they are engaged in activities that are not primarily
intended to be income-producing. For example, charitable
organizations may be viewed as serving the public or providing
services that otherwise would be provided by the government
and, for this reason, are not appropriate subjects of
taxation.\62\ One example is a section 501(c)(3) public service
organization the activities of which are directed exclusively
at serving the poor, such as a tax-exempt soup kitchen or
homeless shelter.\63\ The general rules relating to these
organizations require that their activities primarily
accomplish governmental or charitable purposes.\64\ To prevent
unfair advantage of a tax-exempt organization over a taxable
business, the Code generally taxes the income of otherwise tax-
exempt organizations that is derived from a trade or business
unrelated to the organization's exempt purpose.\65\ However,
there are numerous exceptions that allow for otherwise
unrelated business taxable income to escape taxation. These
exceptions include certain passive income that arguably may
relate to business activities, such as royalties or rents
received from licensing trade names or other assets typically
used in a trade or business, as well as other passive income
such as certain dividends and interest.\66\ Other exceptions
include income derived from certain research activities,\67\
and income from certain trade show and fair activities.\68\
Because the general rule of the Code is to tax income derived
from a trade or business unrelated to an organization's exempt
purpose, these exceptions to the taxation rules for unrelated
business taxable income are classified as Business Synthetic
Spending.
---------------------------------------------------------------------------
\62\ See, e.g., H.R. Rep. No. 1860, 75th Cong., 3d Sess. (1938)
(``The exemption from taxation of money or property devoted to
charitable and other purposes is based upon the theory that the
Government is compensated for the loss of revenue by its relief from
financial burdens which would otherwise have to be met by
appropriations from other public funds, and by the benefits resulting
from the promotion of general welfare.'')
\63\ Although the legal meaning of the term charity has been
broadened over time, even the earliest interpretations of the tax
exemption for charitable organizations included organizations that
provide for the relief of the poor. See, e.g., Nina J. Crimm, An
Explanation of the Federal Income Tax Exemption for Charitable
Organizations: A Theory of Risk Compensation, 50 Florida L. Rev. 419,
429 N.30 (1998) (noting that the Treasury regulations interpreting the
Revenue Acts of 1918, 1921, 1924, 1926, 1928, 1932, 1934, 1936, and
1938 all construed charity in the ordinary and popular sense, providing
that ``[c]orporations organized and operated exclusively for charitable
purposes comprise, in general, organizations for the relief of the
poor.'').
\64\ Treas. Reg. sec. 1.501(c)(3)-1(b)(1)(iii) (providing that an
organization is regarded as operating exclusively for exempt purposes
``only if it engages primarily in activities which accomplish'' exempt
purposes).
\65\ Secs. 511-14.
\66\ Secs. 512(b)(1)-(3).
\67\ Secs. 512(b)(7)-(9).
\68\ Sec. 513(d).
---------------------------------------------------------------------------
Other organizations exempt from tax under section 501(a)
arguably have a direct business analog or compete with for-
profit organizations organized for similar purposes. These
include small insurance companies,\69\ mutual or cooperative
electric companies,\70\ State credit unions,\71\ and Federal
credit unions.\72\ The tax exemption for these organizations
represents a departure from the general rule that business
income is subject to tax.\73\
---------------------------------------------------------------------------
\69\ Sec. 501(c)(15).
\70\ Sec. 501(c)(12).
\71\ Sec. 501(c)(14).
\72\ Sec. 501(c)(1).
\73\ See sec. 61(a)(2) (gross income includes ``income derived from
business'').
---------------------------------------------------------------------------
For example, from the perspective of their customers,
credit unions are engaged in activities that are functionally
indistinguishable from business activities conducted by other
participants in the financial services industry (that is, the
financial services offered by a credit union are identical to
the services that customers ordinarily would purchase from a
taxable banking institution). The tax exemption for credit
unions is intended to subsidize or induce the organization of
credit unions in order to serve the credit and savings needs of
their membership, a segment of the population that Congress
concluded was underserviced by traditional financial services
firms.\74\ That observation explains the rationale for the Tax
Subsidy, but does not contradict the conclusion that exempting
from tax the providers of these services that ordinarily are
provided by participants in the private economy does constitute
a Tax Subsidy.
---------------------------------------------------------------------------
\74\ ``[C]redit unions, unlike many other participants in the
financial services market, are exempt from Federal and most State taxes
because they are member-owned, democratically operated, not-for-profit
organizations generally managed by volunteer boards of directors and
because they have the specified mission of meeting the credit and
savings needs of consumers, especially persons of modest means.'' H.R.
Rep. No. 105-472, sec. 2(4), at 1-2 (1998).
---------------------------------------------------------------------------
Because the tax exemptions for Federal and State credit
unions directly induce behavior related to the production of
business income, these exemptions are treated as Tax Subsidies
in the Business Synthetic Spending category. It could be argued
that this Tax Subsidy should be classified as an item of Social
Spending (because its ultimate purpose is to encourage that
such services be made broadly available), but because the
direct beneficiary of the exemption is the financial
institution that enjoys the tax exemption, the stronger nexus
appears to be with the Business Synthetic Spending category.
4. Foreign investment in U.S. real estate
The Code generally excludes from taxable income any gain or
loss on the sale or exchange of property by foreign
persons,\75\ unless the gain or loss is effectively connected
with the conduct of a trade or business in the United States.
The requirement that foreign persons include gains and losses
on dispositions of U.S. real property interests (``USRPIs'')
under section 897 is an exception to this general rule of the
Code and is treated as a negative tax expenditure.
---------------------------------------------------------------------------
\75\ See sec. 871(a)(1) (applicable to nonresident alien
individuals) and sec. 881(a) (applicable to foreign corporations). Sec.
871(a)(2) imposes tax on capital gains of foreign individuals present
in the United States for 183 or more days during a taxable year.
---------------------------------------------------------------------------
Section 897(a) provides that gain or loss from the
disposition of a USRPI by a nonresident alien individual or a
foreign corporation is taken into account as if such person
were engaged in a trade or business within the United States
during the year of the disposition and as if such gain or loss
were effectively connected with that trade or business.\76\ A
USRPI generally includes an interest in real property,\77\ an
interest in personal property associated with the use of the
real property,\78\ and an interest in a domestic corporation
that was a U.S. real property holding corporation (``USRPHC'')
at any time during the shorter of the taxpayer's holding period
or the five-year period preceding the disposition of the
interest.\79\
---------------------------------------------------------------------------
\76\ A foreign person is generally subject to taxation under the
same rules applicable to U.S. persons on income that is effectively
connected with a trade or business conducted in the United States. See
sec. 871(b) (applicable to nonresident alien individuals) and sec.
882(a) (applicable to foreign corporations).
\77\ Sec. 897(c)(6)(A) provides that an interest in real property
includes fee ownership and co- ownership of land or improvements,
leaseholds of land or improvements, and options to acquire land or
improvements, and options to acquire leaseholds of land or
improvements. Treas. Reg. sec. 1.897-1(c)(1) provides that a USRPI is
``any interest, other than an interest solely as a creditor.''
\78\ Sec. 897(c)(6)(B) provides that real property includes
``movable walls, furnishings, and other personal property associated
with the use of the real property.''
\79\ Sec. 897(c)(2) provides that a USRPHC is any corporation that
holds USRPIs if the fair market value of its USRPIs equals or exceeds
50 percent or more of the aggregate fair market value of its USRPIs,
its interests in real property located outside the United States, and
its other assets that are used or held for use in a trade or business.
Look-through rules apply in determining a corporation's USRPIs.
---------------------------------------------------------------------------
Section 897 increases the tax burden on foreign investors
in U.S. real property above that imposed by the general rules
of the Code with respect to capital gains of nonresidents and,
for that reason, is treated as a negative tax expenditure. For
example, a foreign investor generally is not taxable on the
sale of stock in a U.S. corporation. However, if the U.S.
corporation was a USRPHC at any time during the shorter of the
foreign investor's holding period or the five-year period
preceding the sale of the stock, income from the sale of stock
will be subject to tax as if the income were effectively
connected with the conduct of a U.S. trade or business. We have
included section 897 in the Business Synthetic Spending
category, because it relates directly to the production of
business or investment income, in this case by foreign
investors in U.S. real property.
III. TAX-INDUCED STRUCTURAL DISTORTIONS
Tax-Induced Structural Distortions are inseparable
structural elements of the Code that materially affect economic
decisions in a manner that imposes substantial economic
efficiency costs.\80\ Like Tax-Induced Structural Distortions,
Tax Subsidies also can result in economic inefficiencies, but
in the case of Tax-Induced Structural Distortions, these
inefficiencies cannot be removed simply by reverting to the
general rule of present law. Instead, addressing the economic
distortions attributable to Tax-Induced Structural Distortions
requires a more fundamental reexamination and redesign of
present law. We hope that our identification of Tax-Induced
Structural Distortions as a distinct category of tax
expenditures, and our focus on possible institutional responses
that address their efficiency costs, will permit a neutral
formulation of both the tax policy issues that they raise and
the range of legislative alternatives that might be considered.
---------------------------------------------------------------------------
\80\ As discussed in Section I, our definition of Tax-Induced
Structural Distortions focuses on the substantive criterion of
efficiency for several reasons. First, efficiency is an inherently more
neutral construct than is equity (and possibly simplicity). Second,
many tax expenditures that raise principally equity (or other) issues
are classified as Tax Subsidies. And third, as described in this
section, most of the important structural ambiguities in the Code today
relate to the taxation of capital income (that is, business or
investment income), and efficiency goals loom largest in this context.
---------------------------------------------------------------------------
We briefly describe below some examples of Tax-Induced
Structural Distortions. While these elements can be described
as distinct features of the Code, their interaction is complex
and the distortive effect of each element is difficult to
isolate. For the same reason, addressing the distortion
associated with one element requires consideration of its
interaction with the others.
The examples that follow all relate to the taxation of
capital income (that is, business or investment income). This
reflects the fact that a practical implementation of capital
income taxation generally is thought to be more difficult than
the development of a comprehensive labor income tax.
Nonetheless, these examples will be expanded in our subsequent
work to include some labor income structural distortions, in
particular those relating to the tax treatment of education and
similar investments in ``human capital.''
Entity Classification and the Corporate Income Tax.
Taxpayers who wish to conduct business through an entity
(rather than as a sole proprietorship) choose either a taxable
entity (generally a corporation) or a passthrough entity (such
as a partnership). There is no general rule of entity taxation
evident from the Code. To the contrary, two very different
paradigms are offered, each with a number of variations.\81\ As
a practical matter, businesses that expect to raise equity
capital in the public markets must choose the corporate form.
The economic consequences of this choice are distorted,
however, by the substantial inefficiencies of the corporate tax
regime--an inherently distortive element of the Code that also
magnifies the distortions of other features, as discussed
below.
---------------------------------------------------------------------------
\81\ Passthrough entities include partnerships (including limited
liability companies taxable as partnerships), subchapter S
corporations, and certain entities that are entitled to deduct
dividends paid to shareholders or are otherwise subject to special
regimes under which they generally do not pay corporate tax (e.g.,
regulated investment companies (RICs), real estate investment trusts
(REITs), real estate mortgage investment conduits (REMICs) and
cooperatives). A description of the various types of business entities,
some of their principal characteristics, and some considerations that
relate to their differences can be found at Joint Committee on
Taxation, Tax Reform: Selected Federal Tax Issues Relating to Small
Business and Choice of Entity (JCX-48-08), June 4, 2008.
---------------------------------------------------------------------------
In form, at least, business income earned through a
corporation is taxable at two levels--first at the corporate
level, when earned, and subsequently at the shareholder level,
when distributed as a dividend. In practice, however, present
law does not always result in the actual payment of two levels
of tax on corporate earnings; instead, the tax at either or
both levels may be eliminated or substantially reduced by other
features of the Code. Thus, the shareholder-level tax is
eliminated entirely for corporate income distributed as
dividends to tax-exempt shareholders (such as charitable
organizations), and may be substantially reduced even for
amounts distributed to taxable shareholders by the lower rates
applicable to dividends paid to individuals and to amounts
treated as capital gains (e.g., amounts paid in certain stock
redemptions).\82\ (The effects of these lower rates are
discussed further below.)
---------------------------------------------------------------------------
\82\ The dividends-received deduction available to corporate
shareholders also reduces the effective tax rate on dividend income
received by corporations, but its purpose is to avoid greater-than-
double taxation of corporate earnings by minimizing the effect of tax
imposed at two or more corporate levels.
---------------------------------------------------------------------------
Alternatively, the corporate-level tax may be eliminated
entirely, where corporate earnings are paid as deductible
interest to investors in corporate debt, or substantially
reduced by other features of the Code, such as accelerated
depreciation and the deferral of foreign earnings. (These
elements are also discussed further below.) In fact, present
law can result in no tax at all, at either level, where
corporate earnings are paid as deductible interest to tax-
exempt investors in corporate debt.
The differences in the treatment of capital income that are
directly attendant on the corporate income tax--whether
relating to the form of the investment or the characteristics
of the investor--significantly distort the allocation of
capital. To the extent that the corporate form actually results
in two levels of tax, the increase in the cost of capital can
lead to lower aggregate capital formation, reducing future
output and productivity. At the same time, the desire to avoid
double taxation leads businesses to seek opportunities to
reduce one or both levels of tax. A business may choose to
finance new investment by retaining earnings in the
corporation, rather than distributing those earnings to
shareholders, in order to take advantage of differences in the
relative tax situations of the corporation and its
shareholders; this behavior distorts the allocation of capital
to the extent that a corporation's investment opportunities are
more limited than those of its shareholders.\83\ Alternatively,
businesses increasingly choose to organize in noncorporate
rather than corporate form, notwithstanding potential
restrictions on their access to the capital markets; \84\ or a
business in corporate form may choose to raise capital by
issuing debt rather than equity, with the distortions discussed
further below.
---------------------------------------------------------------------------
\83\ A shareholder may prefer earnings retention (subject to the
effects of the accumulated earnings tax and personal holding company
rules), if the shareholder expects to defer tax on capital gains for a
substantial period or to hold his stock until death (so that
appreciation can be passed to his heirs free of individual income tax).
There may also be an incentive to retain earnings if the corporation's
effective tax rate on reinvestment is lower than the shareholder tax
rate on distributed earnings. On the other hand, if the shareholder's
tax rate is significantly lower than the corporation's effective tax
rate--for example, if the shareholder is a tax-exempt entity or is
entitled to a corporate dividends-received deduction or to the lower
rates on dividends paid to individuals, or if the distribution can be
structured as a stock redemption eligible for capital gains rates and
basis recovery--there may be a tax incentive to distribute earnings or
a reduced incentive to retain earnings.
\84\ See U.S. Department of the Treasury, Treasury Conference on
Business Taxation and Global Competitiveness Background Paper, July 23,
2007 (hereinafter ``Treasury Conference Background Paper''), Table 3.1,
at 13, reporting that net business income earned through flowthrough
entities represented 51 percent of all business net income in 2004 and
noting that the importance of flow-through businesses to the U.S.
economy has been growing steadily over the last several decades.
---------------------------------------------------------------------------
There is no obvious solution to these problems. While the
corporate tax could be eliminated entirely, it still would be
necessary to choose from among the various passthrough
alternatives; moreover, passthrough treatment may be unworkable
for some types of businesses, such as publicly traded
corporations with complex business operations. Alternatively,
these distortions could be mitigated by making adjustments
within the corporate tax regime to reduce or eliminate the
separate corporate and shareholder levels of tax (referred to
as ``corporate integration''), but this too involves
significant policy decisions.\85\ Elimination of the corporate
tax distortion thus requires careful consideration regarding
the situations in which at least one level of tax should be
collected and the level (corporate or shareholder) at which
that tax should apply.
---------------------------------------------------------------------------
\85\ For a more extensive discussion of the background, issues and
alternatives with respect to corporate integration, see Organization
for Economic Co-operation and Development, Fundamental Reform of
Corporate Income Tax (OECD Tax Policy Studies No. 16, 2007); Edward D.
Kleinbard, Designing an Income Tax on Capital in Taxing Capital Income
165, 172 (Henry J. Aaron et al., eds. 2007); Joint Committee on
Taxation, Present Law and Background Relating to Selected Business Tax
Issues, JCS-41-06 (September 19, 2006); Michael J. Graetz and Alvin C.
Warren, Jr., Integration of the U.S. Corporate and Individual Income
Taxes: The Treasury Department and American Law Institute Reports (Tax
Analysts, 1998); and Joint Committee on Taxation, Federal Income Tax
Aspects of Corporate Financial Structures, JCS-1-89 (January 18, 1989).
---------------------------------------------------------------------------
Differential Treatment of Debt and Equity Capital. As
indicated above, the fact that interest is generally deductible
while dividends are not encourages corporations to finance
investments with debt rather than equity capital in order to
reduce the corporate-level tax.\86\ This incentive is increased
by the availability of tax-exempt and foreign investors; where
corporate earnings are paid as deductible interest to tax-
exempt or foreign holders of corporate debt, no U.S. tax is
paid at either the corporate or the investor level (although
the investor may incur some foreign tax on the interest
received).
---------------------------------------------------------------------------
\86\ See Treasury Conference Background Paper, Table 4.1, at 24,
(estimating that the effective marginal tax rate on new investment
financed by debt is -2.2 percent, while the effective marginal tax rate
on new investment financed by equity is 39.7 percent); and
Congressional Budget Office, Taxing Capital Income: Effective Rates and
Approaches to Reform (October 2005), (estimating that the effective tax
rate on debt-financed corporate capital income is -6.4 percent, and the
effective tax rate on equity-financed corporate capital income is 36.1
percent).
---------------------------------------------------------------------------
Clearly, there are non-tax reasons to finance investment at
least partially with debt, including the potential to generate
a higher rate of return on equity capital if the investment
succeeds. However, the additional tax incentive to raise
capital in the form of debt encourages higher leverage levels
than would exist absent the tax inducement. The tax inducement
to over-leverage increases both the risk of financial distress
and the tolerance of corporate equity owners for operational
risk (by reducing the extent to which their equity capital is
at stake).
The distortions introduced by the debt-equity distinction
cannot be eliminated simply by reverting to a general rule; at
present, there is no general rule in the Code for accounting
for the cost of capital. While there is general agreement that
a uniform approach to the cost of capital would be desirable,
designing such an approach requires numerous decisions,
including the amount and timing of any deduction for the cost
of capital, the treatment of derivative instruments, and
coordinating rules for taxing the return on capital to the
investor.
The Realization Principle. The imposition of tax under the
Code is predicated in most cases on a realization event, such
as the sale or exchange of an asset.\87\ The purpose of the
realization requirement is to match the payment of tax with the
taxpayer's receipt of funds. The effect, however, is that gains
and losses are not taken into account as they economically
accrue. Instead, taxpayers can determine when gains or losses
are recognized, encouraging ``cherry-picking'' among assets and
the timing of realizations to maximize tax benefits.
---------------------------------------------------------------------------
\87\ The most notable exception to this general principle is the
mark-to-market rule of section 475, which requires dealers in
securities to recognize gain or loss on securities (other than
securities held for investment) ``as if such security were sold for its
fair market value on the business day of [the] taxable year.'' Section
877A, which requires individuals who are relinquishing U.S. citizenship
or residence to mark all of their assets to market upon expatriation,
is the most comprehensive mark-to-market requirement of present law.
---------------------------------------------------------------------------
More broadly, the ability to defer recognition of gain
induces taxpayers to hold assets they otherwise would sell in
order to defer (and effectively reduce) the tax associated with
a realization event. (Losses, on the other hand, are more
valuable when recognized currently.) This ``lock-in'' effect
reduces capital flow to economically superior investments.\88\
As the economist Paul Samuelson observed over twenty years ago:
---------------------------------------------------------------------------
\88\ See, generally, David B. Bradford, Fixing Realization
Accounting: Symmetry, Consistency, and Correctness in the Taxation of
Financial Instruments, 50 Tax Law Review 731 (1995); Alan J. Auerbach,
Retrospective Capital Gains Taxation, 81 American Economic Review 167
(1991).
Taxes which people can and will avoid by changing
their behavior give an illusion of being unburdensome,
precisely because they can be avoided. The truth is
just the opposite: per dollar of revenue collected,
such ``voluntary taxes'' do the maximum harm and are to
be avoided; they occasion the greatest distortions and
do so without achieving the purpose of releasing to the
government real resources.\89\
---------------------------------------------------------------------------
\89\ Paul A. Samuelson, Theory of Optimal Taxation, 30 Journal of
Public Economics 137, 141 (1986).
For financial instruments other than debt, a consequence of
the realization principle is to defer taxation of (and thus
systematically undertax) time value of money returns until
disposition. For debt instruments, this return is appropriately
taxed on an accrual basis, e.g., under the original issue
discount rules. The disparity, however, between the treatment
of debt and non-debt returns distorts the allocation of
investment capital by discouraging taxable investors from
purchasing debt and encouraging the proliferation of derivative
instruments that provide debt-like returns without the higher
tax burden.
In theory, an accrual (or mark-to-market) system of
taxation--under which taxpayers would value assets periodically
and reflect accrued gains and losses in income--would reduce
the inefficiencies associated with a realization-based system.
In practice, however, a comprehensive mark-to-market regime is
widely thought to be unadministrable, due to the difficulties
associated with valuing assets for which there is no market
trading (generally, nonfinancial assets). The values of
financial assets, on the other hand, are more likely to be
ascertainable, whether by virtue of market trading or through
the use of valuation models. Moreover, imputing a time value
return to non-debt financial instruments is both conceptually
and practically feasible.\90\ As a consequence, proposals for
eliminating the distortions attributable to the realization
principle typically focus on financial assets.
---------------------------------------------------------------------------
\90\ See H.R. 4912, introduced on December 19, 2007 by Rep. Neal;
Joint Committee on Taxation Present Law and Analysis Relating to the
Tax Treatment of Derivatives (JCX-21-08), March 4, 2008 at 32-34.
---------------------------------------------------------------------------
Lack of Indexation for Inflation. The general rules of the
Code do not account for the effect of inflation on the return
on investment.\91\ The failure to index asset bases means that
gain attributable solely to inflation is taxed when an asset is
sold, and real economic gain is effectively overtaxed.
Conversely, the failure to index debt (i.e., to reflect the
fact that inflation benefits borrowers by permitting repayment
with cheaper dollars) results in an overstatement of the cost
of capital. The combination of these factors encourages
underinvestment in capital assets and overleveraging of
investments.
---------------------------------------------------------------------------
\91\ The indexation of the rate brackets, the personal exemption
and the standard deduction does not specifically allow the exclusion or
deferral of income and is only an indirect method of addressing
inflation. The allowance of a lower rate on capital gains has been
described as a partial relief from inflation, but is not targeted to
that effect.
---------------------------------------------------------------------------
Indexation presents both conceptual and practical issues,
however, for which there are no obvious solutions.\92\ For
example, the indexation of asset bases would need to be
considered in the larger context of the disparity between tax
and economic depreciation (discussed further below).\93\
Indexation of debt is complicated by the difficulty of
determining the extent to which nominal interest rates already
anticipate or compensate for inflation; yet indexing asset
bases without indexing debt could inappropriately benefit
taxpayers who borrow to purchase indexed assets.\94\ Indexing
also would be administratively complex, particularly in
circumstances involving tiered entities or transactions that
increase or decrease a taxpayer's basis at different points in
time; the inclusion of parallel adjustments for deflation,
while theoretically appropriate, could also add significantly
to the complexity.
---------------------------------------------------------------------------
\92\ Some of these issues have been raised in connection with
certain past proposals to adopt some forms of indexation. See, e.g.,
New York State Bar Association, Tax Section, Ad Hoc Committee on
Indexation of Basis, Report on Inflation Adjustments to the Basis of
Capital Assets (June 27, 1990) (hereafter New York State Bar Report on
Inflation Adjustments).
\93\ See discussion of accelerated depreciation, infra.
\94\ While lenders may be overtaxed absent inflation adjustments,
this result may be mitigated by a ``clientele effect'' in which tax
exempt or low taxed persons disproportionately take such positions.
See, e.g. Department of the Treasury, Tax Reform for Fairness,
Simplicity, and Economic Growth (November 1984) Vol. II Chapter 9.03,
at 194.
---------------------------------------------------------------------------
Asymmetrical Treatment of Losses. The treatment of income
and loss under the Code is asymmetrical in the sense that
income is taxed in full when realized, while losses are
frequently limited, deferred or disallowed. Most importantly, a
corporation generally pays tax currently on the net income from
its operations, but a net operating loss will generate tax
benefits only to the extent that it can be carried back or
forward into years in which the corporation has taxable
income.\95\ Numerous other loss limitations apply on a
transactional basis or with respect to certain categories of
losses, such as the limitations on use of capital losses under
section 1211.\96\
---------------------------------------------------------------------------
\95\ Sec. 172(b) provides for carryback of losses to the two tax
years preceding the year of loss, and carryforward of losses for up to
20 years.
\96\ For corporations, section 1211(a) allows capital losses only
to the extent of capital gains. Section 1212(a) provides that corporate
capital losses can be carried back three years and forward five years.
For individuals, section 1211(b) allows capital losses to the extent of
capital gains plus $3,000. Section 1212(b) provides that noncorporate
taxpayers can carry capital losses forward indefinitely. Other loss
limitations include section 382 (limiting corporate losses where there
is an ownership change), section 262 (disallowing most personal
losses), section 469 (limiting passive activity losses), section 267
(limiting deductions with respect to transactions between related
taxpayers), and section 165(d) (allowing gambling losses only to the
extent of gambling gains).
---------------------------------------------------------------------------
A tax system that is not neutral between gains and losses
effectively alters the expected payout of a given investment.
The government shares in the gains of the investment (lowering
the expected value of the upside), but limits its participation
with respect to losses (increasing the expected cost of the
downside). This problem in turn is exacerbated by a progressive
rate structure, because in that case losses, even when
deductible, typically will give rise to tax benefits (through
offset or refund) at a lower tax rate than the tax rate imposed
on highly successful investments.\97\
---------------------------------------------------------------------------
\97\ William M. Gentry and R. Glenn Hubbard, Tax Policy and
Entrepreneurial Entry, American Economic Association Papers and
Proceedings, Vol. 90, No. 2, 283 (May, 2000).
---------------------------------------------------------------------------
On the one hand, it may be unreasonable or undesirable to
expect that the government would accept an unlimited risk of
loss; the presence of a tax ``penalty'' for incurring losses
can be viewed as a decision by the government not to
participate fully in excessively risky behavior. On the other
hand, loss limitations that are too severe may discourage risk
taking (including entrepreneurial activities), raise the cost
of capital for certain investments, and influence decisions
regarding the mix of investment choices.\98\
---------------------------------------------------------------------------
\98\ A seminal paper on this issue is Evsey D. Domar and Richard A.
Musgrave, Proportional Income Taxation and Risk-Taking, 58 Quarterly
Journal of Economics 388 (1944). A recent paper is Rosanne Altshuler,
Alan J. Auerbach, Michael Cooper, and Matthew Knittel, Understanding
U.S. Corporate Tax Losses, NBER Working Paper Series 14405 (2008) at 1-
2. See also David A. Weisbach, The (Non)Taxation of Risk, 58 Tax. L.
Rev. 1 (2004) (discussing various risk and payoff scenarios with and
without taxation).
---------------------------------------------------------------------------
In theory, the distortion caused by the asymmetrical
treatment of gains and losses could be mitigated by reducing or
eliminating restrictions on the use of losses (and in the
latter case, providing refunds where losses exceed gains in a
given tax year). For the most part, however, the existing loss
limitations serve an anti-avoidance purpose or prevent the
losses themselves from becoming a tradable commodity.\99\ More
broadly, loss limitations also serve to moderate other non-
economically neutral features of the Code, including some of
the credits, deductions, and opportunities for deferral (and in
particular the incentives for leveraging that move equity
investments closer in economic consequence to options) that we
have classified as tax expenditures because they are exceptions
to the Code's general rules. Addressing the asymmetrical
treatment of losses could require coordinating modifications to
those provisions.
---------------------------------------------------------------------------
\99\ Section 382 limits the ability of new owners to benefit from
pre-ownership change losses.
---------------------------------------------------------------------------
Preferential Rates for Capital Gains and Certain Dividends.
The distortive effects of each of the foregoing elements (the
corporate tax, the debt-equity distinction, the realization
principle, the failure to index, and the asymmetrical treatment
of losses) are complicated by the Code's provision of
preferential rates for both capital gains and (since 2001)
dividends derived by individuals. We treat these preferential
rates as Tax Subsidies, because these incentives could be
reversed by conforming the tax rates on capital gains and
dividends to the more generally applicable rates. We classify
these items as Business Synthetic Spending or Social Spending
(in the case of the preferential treatment of capital gains on
housing), because they encourage investment in the types of
assets that can benefit from the preferential rates.
Nonetheless, these preferential rates can fairly also be
analyzed as Tax-Induced Structural Distortions, to the extent
that these provisions can be presented as partial correctives
to other problems in the taxation of capital income that would
be exacerbated in their absence, which problems in turn are not
so easily reversed by conforming them to a general rule. That
is, these preferences both have substantial efficiency effects
and interact directly with other distortive elements of the
Code that are themselves Tax-Induced Structural Distortions.
The efficiency costs associated with the taxation, and
particularly the non-uniform taxation, of capital income are
well documented.\100\ The distortions created by non-uniform
taxation of capital income persist, even though the overall
effective marginal tax rate on capital investment has been
found to be relatively low, and capital gains taxes in
particular can often be postponed indefinitely by virtue of the
realization principle.\101\ This paradox of a major distortion
in the context of a relatively low overall effective marginal
tax rate is explained by (in addition to the use of debt
financing and the choice of passthrough business entities, as
discussed above) investors' ability to defer (and thus reduce)
taxes on accrued capital gains and to recognize losses
selectively, subject to loss limitations (see discussion of the
realization principle above); dampened dividend payouts during
periods when dividends are taxed similarly to ordinary income
may also contribute to this result. This avoidance behavior,
including the ``lock-in'' effect for asset holders and the
artificially low payouts of dividends, is itself an indication
of inefficiency as investors make decisions based on post-tax
rather than pre-tax rates of return.
---------------------------------------------------------------------------
\100\ Three recent examinations of this subject are Congressional
Budget Office, Taxing Capital Income: Effective Rates and Approaches to
Reform (October, 2005); Jane G. Gravelle, Congressional Research
Service, Capital Income Tax Provisions and Effective Tax Rates
(January, 2005); and papers found in Henry J. Aaron, Leonard E. Burman,
and C. Eugene Steuerle, editors, Taxing Capital Income, Urban Institute
Press (2007).
\101\ In addition to the marginal effective rate differentials
cited in the Treasury Background Paper, the Congressional Budget
Office, in Taxing Capital Income: Effective Rates and Approaches to
Reform (2005), calculated the effective marginal tax rate on capital to
be approximately 14 percent. The highest effective marginal rates on
capital income apply to income derived from equity-financed corporate
investment. The CBO found a wide dispersion for differences in debt
versus equity financing in the corporate context, housing versus non-
housing investments, and corporate versus noncorporate investments.
---------------------------------------------------------------------------
On the other hand, the preferential treatment of dividends
and capital gains can be seen as mitigating the distortions
resulting from the taxation of corporate earnings at both the
corporate and shareholder levels; the matching of the rate for
dividends with the rate for capital gains may also mitigate
incentives for corporations to structure distributions in one
form or the other. The lower rates for capital gains are
sometimes defended on the basis that they mitigate the ``lock-
in'' effect of the realization principle and the failure of the
Code to index gains for inflation. The policy issues implicated
by the treatment of capital gain and dividend income, and the
taxation of capital income generally, have been the subject of
numerous incremental or comprehensive proposals.\102\
---------------------------------------------------------------------------
\102\ Comprehensive governmental reform proposals, some of which
directly or indirectly have drawn from tax expenditure analyses, that
have focused on the treatment of capital income include Department of
the Treasury, Blueprints for Basic Tax Reform (January 17, 1977);
Department of the Treasury, Tax Reform for Fairness, Simplicity, and
Economic Growth (November, 1984); and President's Advisory Panel on
Federal Tax Reform, Simple, Fair, and Pro-Growth: Proposals to Fix
America's Tax System (2005). Recent comprehensive nongovernmental
proposals include Edward D. Kleinbard, Rehabilitating the Business
Income Tax (The Hamilton Project 2007).
---------------------------------------------------------------------------
Accelerated Depreciation. The depreciation rules of the
Code distort the allocation of capital by departing in several
respects from real economic depreciation (meaning an asset's
real useful life and rate of depreciation). On the one hand, a
variety of special exceptions for particular types of
property,\103\ and the failure to reflect accurately many
assets' real economic lives,\104\ results in both different
cost-recovery periods for assets with identical economic lives
and different cost-recovery methods for assets that decline in
value at the same rate. On the other hand, the Code's
depreciation provisions include a number of rules of
administrative convenience that group assets into a limited
number of categories (for example, three-year property, five-
year property, and seven-year property) based on the class
lives of those assets and provide uniform cost-recovery rules
for the asset categories.\105\ These rules result in uniform
cost-recovery periods for assets with different economic lives,
and uniform cost-recovery methods for assets that decline in
value at different rates.
---------------------------------------------------------------------------
\103\ We have identified these exceptions as Tax Subsidies, because
they are exceptions from identifiable general rules that apply to
otherwise similar properties. Examples include the special recovery
periods for energy specific items, the 15-year recovery period for
restaurant property, and the seven-year recovery period for motorsports
entertainment complexes.
\104\ Section 168 provides different cost-recovery periods for
property based on the ``class life'' of such property. Most MACRS
recovery periods originally were established through IRS administrative
guidance (Rev. Proc. 87-56, 1987-2 C.B. 674). In November 1988,
Congress revoked the Secretary's authority to modify the class lives of
depreciable property as part of the Technical and Miscellaneous Revenue
Act of 1988, Pub. L. No. 100-647, sec. 6253 (1988).
\105\ Section 168(b)(1) provides as a general cost recovery rule
the 200 percent declining balance method switching to the straight-line
method for the first taxable year for which using the straight-line
method with respect to the adjusted basis as of the beginning of such
year will yield a larger allowance.
---------------------------------------------------------------------------
The mismatch between tax depreciation and real economic
depreciation contributes to the inefficient allocation of
capital. For example, as between two assets with the same
economic lives that provide the same pre-tax return on
investment, a taxpayer will prefer to invest in the asset for
which the Code (or a revenue procedure) provides a shorter
cost-recovery period and, consequently, a lower effective tax
rate. Similarly, as between two assets with different economic
lives that provide the same pre-tax rate of return and for
which the Code prescribes the same cost-recovery period, the
asset with the longer economic life is tax-advantaged.\106\ As
a result of these distortions, capital is drawn away from tax-
disfavored assets and toward tax-favored investments, even
though the tax-favored investments may be less productive.\107\
---------------------------------------------------------------------------
\106\ For example, section 168 provides that property with a class
life of more than four but less than 10 years is classified as ``5-year
property'' and prescribes a five-year recovery period. The effective
tax rate on the returns of an asset with a class life of nine years
(which is depreciated in five years under the Code) is lower than the
rate imposed on returns on assets with a five-year class life.
\107\ While it is difficult to generalize about the consequences of
the depreciation structural distortion, one consequence might be a
systemic overinvestment in equipment. Cf. Jane Gravelle, Depreciation
and the Taxation of Real Estate, CRS Report for Congress, at 10-11
(May, 1999) (indicating that the depreciation rules result in lower
effective tax rates for equipment as compared to structures).
---------------------------------------------------------------------------
Deferral of Tax on Foreign Earnings. For U.S.-owned
multinational businesses, the deferral of tax on the earnings
of foreign corporate subsidiaries can substantially reduce the
effective rate of corporate-level tax. The United States
employs a ``worldwide'' tax system, under which U.S. resident
individuals and domestic corporations generally are taxed on
all income, whether derived in the United States or abroad.
Income earned directly or through a pass-through entity such as
a partnership is taxed on a current basis; however, active
foreign business income earned by a domestic parent corporation
indirectly through a foreign corporate subsidiary generally is
not subject to U.S. tax until the income is distributed as a
dividend to the domestic corporation. The basic deferral rule
in turn is circumscribed by the anti-deferral rules of subpart
F of the Code, which provide that a domestic parent corporation
is subject to U.S. tax on a current basis with respect to
certain categories of passive or highly mobile income earned by
its foreign subsidiaries.\108\
---------------------------------------------------------------------------
\108\ To mitigate double taxation of foreign source income, the
United States allows a domestic corporation to claim a credit for
foreign income taxes paid by it and by its foreign subsidiaries,
subject to certain limitations. In addition, U.S. tax law imposes an
exit tax when a U.S. company decides to sidestep U.S. taxation by
migrating its tax residence from the United States to a foreign
jurisdiction through a ``corporate inversion'' transaction.
---------------------------------------------------------------------------
As we have previously described,\109\ the taxation of
domestic corporations on worldwide income, coupled with the
deferral treatment of foreign subsidiary earnings, raises
several important and related economic efficiency concerns.
First, the differing treatment of domestic and foreign
corporations creates an incentive for a multinational group to
locate its parent company offshore. This distortion of the
residency decision further affects countries' tax bases,
necessitating higher or lower taxes than would otherwise occur,
with the resulting distortions that such other taxes may
create. Second, deferral implies a conditionally different tax
rate on foreign active business income than the rate that
applies to domestic income, and this difference may affect the
type and location of business investment when compared either
to a wholly domestic enterprise, or to a wholly foreign one.
Taxpayers may choose lower-earning investments which benefit
from deferral, at the expense of higher-earning investments on
which income recognition cannot be deferred, with collateral
effects on the domestic rate of growth of income. Third, and
related to the foregoing, U.S. firms may have an incentive
under present law not to repatriate certain ``active'' foreign
earnings to the United States.\110\ In other words, the
potentially lower effective tax rate available for investments
offshore affects the location of both ``new'' investments and
reinvestments of amounts previously earned offshore.\111\
---------------------------------------------------------------------------
\109\ See Joint Committee on Taxation, Economic Efficiency and
Structural Analyses of Alternative U.S. Tax Policies for Foreign Direct
Investment (JCX-55-08), June 25, 2008.
\110\ A taxpayer whose foreign tax credit position leaves it
vulnerable to U.S. residual taxation may refrain from repatriating
income back to the United States.
\111\ In addition, deferral may create what may be called ``second
order'' distortions of taxpayers' choices. Rules created to protect the
policy of deferral for active income or the determination of taxpayers
subject to the worldwide regime may result in economically inefficient
business structures or investment decisions as taxpayers try to qualify
their income as the result of an active business or qualify their
investment as not resident in the United States.
---------------------------------------------------------------------------
There appear to be two possible--but polar opposite--
solutions to these distortions. The first possible solution is
to move towards a ``territorial'' system in which active
foreign income is fully exempt from U.S. taxation. The second
is to move towards a ``full inclusion system'' in which all
foreign source income is currently taxed, without regard to the
active or passive character of the income. A territorial
approach would exempt from U.S. tax those active foreign
earnings that are repatriated as dividends. A full inclusion
approach would tax all foreign earnings currently, regardless
of whether the earnings are repatriated.
Both of these alternatives would reduce the current
disincentive to repatriate low-taxed foreign earnings, but
would do so through vastly different mechanisms and would have
different ancillary consequences. Under either approach, the
repatriation tax is eliminated, and there is no longer any U.S.
tax motivation to keep low-taxed foreign income offshore. The
effects of the two alternatives on the initial locational
decision are not clearly equivalent, however, and the two
options differ materially in other respects. Moreover, the two
may have different implications for the international
competitiveness \112\ of different U.S. industries.\113\
---------------------------------------------------------------------------
\112\ The phrase ``international competitiveness'' has no technical
meaning in economics and, consequently, is subject to a wide range of
interpretations. See Joint Committee on Taxation, Factors Affecting the
International Competitiveness of the United States (JCS-6-91), May 30,
1991.
\113\ In addition, there may be different implications for
companies in the same industry. For example, some companies export
goods and services from the United States without a presence, or
substantial presence, overseas, while other companies export from the
United States by relying heavily on foreign branches and/or controlled
foreign entities. Businesses make this choice based on both
institutional and tax factors, and companies within the same industry
may choose very different structures for their overseas presence. The
choice between full inclusion and a territorial system for the
treatment of foreign source income would affect these companies very
differently.
IV. MEASUREMENT OF TAX EXPENDITURES
Tax expenditure calculations generally
A tax expenditure is measured by the difference between tax
liability under present law and the tax liability that would
result from a recomputation of tax without benefit of the tax
expenditure provision. Taxpayer behavior is assumed to remain
unchanged for tax expenditure calculation purposes.\114\ This
assumption is made to simplify the calculation and conform to
the presentation of government outlays. This approach to tax
expenditure measurement is in contrast to the approach taken in
revenue estimating; all of our revenue estimates do reflect
anticipated taxpayer behavior.
---------------------------------------------------------------------------
\114\ An alternative way to measure tax expenditures is to express
their values in terms of ``outlay equivalents.'' An outlay equivalent
is the dollar size of a direct spending program that would provide
taxpayers with net benefits that would equal what they now receive from
a tax expenditure. For positive tax expenditures, the major difference
between outlay equivalents and the tax expenditure calculations
presented here is an accounting for whether a tax subsidy converted
into an outlay payment would itself be taxable, so that a gross-up
might be needed to deliver the equivalent after-tax benefits. Until
recently, the Treasury Department presented estimates of outlay
equivalents in the President's budget in addition to presenting
estimates in the same manner as the JCT Staff.
---------------------------------------------------------------------------
The tax expenditure calculations in this report are based
on the January 2008 Congressional Budget Office revenue
baseline and JCT Staff projections of the gross income,
deductions, and other activities of individuals and
corporations for calendar years 2008-2012, for both positive
and negative tax expenditures. These projections are used to
compute tax liabilities for the present-law revenue baseline
and tax liabilities for the alternative baseline that assumes
that the tax expenditure provision does not exist.
Internal Revenue Service (``IRS'') statistics from recent
tax returns are used to develop projections of the tax credits,
deductions, and exclusions that will be claimed (or that will
be denied in the case of negative tax expenditures) under the
present-law baseline. These IRS statistics show the actual
usage of the various tax expenditure provisions. In the case of
some tax expenditures, such as the earned income credit, there
is evidence that some taxpayers are not claiming all of the
benefits to which they are entitled, while others are filing
claims that exceed their entitlements. The tax expenditure
calculations in this report are based on projections of actual
claims under the various tax provisions, not the potential tax
benefits to which taxpayers are entitled.
Some tax expenditure calculations are based partly on
statistics for income, deductions, and expenses for prior
years. Selective accelerated depreciation is an example.
Calculations for a number of tax expenditures are based on the
difference between tax depreciation deductions under present
law and the deductions that would have been claimed in the
current year if various investments in the current year and all
prior years had been depreciated using the Modified Accelerated
Cost Recovery System (``MACRS'').\115\
---------------------------------------------------------------------------
\115\ These selective depreciation tax expenditures are in Table 3.
---------------------------------------------------------------------------
Each tax expenditure is calculated separately, under the
assumption that all other tax expenditures remain in the Code.
If two or more tax expenditures were estimated simultaneously,
the total change in tax liability could be smaller or larger
than the sum of the amounts shown for each item separately, as
a result of interactions among the tax expenditure provisions.
Year-to-year differences in the calculations for each tax
expenditure reflect changes in tax law, including phase outs of
tax expenditure provisions and changes that alter the Code's
general rules, such as the tax rate schedule, the personal
exemption amount, and the standard deduction. Some of the
calculations for this tax expenditure report may differ from
estimates made in previous years because of change from a norm-
based approach to a Code-rule-based approach, changes in law
and economic conditions, the availability of better data, and
improved measurement techniques.
Tax expenditures versus revenue estimates
A tax expenditure calculation is not the same as a revenue
estimate for the repeal of the tax expenditure provision, for
three reasons. First, unlike revenue estimates, tax expenditure
calculations do not incorporate the effects of the behavioral
changes that are anticipated to occur in response to the repeal
of a tax expenditure provision.\116\ Second, tax expenditures
are concerned with changes in the reported tax liabilities of
taxpayers.\117\ Because tax expenditure analysis focuses on
reported tax liabilities as opposed to Federal government tax
receipts, there is no concern for the short-term timing of tax
payments. Revenue estimates are concerned with changes in
Federal tax receipts that are affected by the timing of all tax
payments. Third, some of the tax provisions that provide an
exclusion from income also apply to the Federal Insurance
Contribution Act (``FICA'') tax base, and the repeal of the
income tax provision would automatically increase FICA tax
revenues as well as income tax revenues; this FICA effect would
be reflected in revenue estimates, but is not considered in tax
expenditure calculations. There also may be interactions
between income tax provisions and other Federal taxes such as
excise taxes and the estate and gift tax.
---------------------------------------------------------------------------
\116\ An exception to this absence of behavior in tax expenditure
calculations is that a taxpayer is assumed to make simple additions or
deletions in filing tax forms, what we refer to as ``tax form
behavior.'' Thus a taxpayer that is eligible for one of two alternative
credits is assumed to file for the second credit if the first credit is
eliminated.
\117\ As noted above, reported tax liabilities may reflect
compliance issues, and thus calculations of tax expenditures reflect
existing compliance issues.
---------------------------------------------------------------------------
Our tax expenditure calculations assume that, if a tax
expenditure provision were repealed, the repeal would take
effect for taxable years beginning at the latest in the
calendar year that precedes the first fiscal year for which we
are making tax expenditure calculations. Thus in the case of
this year's pamphlet, our projection for a given provision for
fiscal years 2008 through 2012 compares present law to an
alternative under which the respective tax expenditure is
eliminated for calendar years 2007 through 2012. This approach
tends to produce a full year effect in the first year (for this
report, fiscal year 2008) for tax expenditures.\118\
---------------------------------------------------------------------------
\118\ Tax expenditures that expire early in the period covered by
our report may have other timing effects that affect whether a full
year's effect is shown for any given year.
---------------------------------------------------------------------------
On the other hand, such full year effects in the first
fiscal year are not common for revenue estimates. For example,
because most individual taxpayers have taxable years that
coincide with the calendar year, the actual repeal of a
provision affecting income taxes most likely would be effective
for taxable years beginning after December 31 of a certain
year, say, 2007. However, the Federal government's 2008 fiscal
year begins October 1, 2007. Thus, the revenue estimate for
repeal of a provision at the end of calendar year 2007 would
show a smaller revenue gain in the first year, fiscal 2008,
than in subsequent fiscal years.
A revenue estimate might also reflect some delay in the
timing of the revenue gains as a result of the taxpayer
tendency to postpone or forgo changes in tax withholding and
estimated tax payments, and very often repeal or modification
of a tax provision includes transition relief that would not be
captured in a tax expenditure calculation.
Individual income tax
Under the JCT Staff methodology, the Code's general rules
governing the individual income tax include the following major
components: one personal exemption for each taxpayer and one
for each dependent, the standard deduction, the existing tax
rate schedule, the opportunity to elect any filing status that
the taxpayer is eligible for, and deductions for investment and
certain employee business expenses. Most other tax benefits to
individual taxpayers are classified as exceptions to the Code's
general rules.
We view the personal exemption and the standard deduction
as defining the zero-rate bracket that is a part of the Code's
general rules. An itemized deduction that is not necessary for
the direct generation of income is classified as a positive tax
expenditure, but only to the extent that it, when added to a
taxpayer's other itemized deductions, exceeds the standard
deduction. In addition, the phase out or disallowance of
personal exemptions under both the regular income tax and the
alternative minimum tax (``AMT''),\119\ (and the standard
deduction under the AMT), as well as the denial of deduction
for investment expenses not in excess of investment
income,\120\ are presented as negative tax expenditures.
---------------------------------------------------------------------------
\119\ Thus phase out of the personal exemption under the regular
income tax, and disallowance of personal exemptions and the standard
deduction under the AMT, are deemed negative tax expenditures. While in
other contexts it may be reasonable for an analysis to view the
exemption under the AMT as equivalent to personal exemptions plus the
standard deduction, we do not make that equivalency judgment here
because that would be a policy call, rather than the rule-based
identification of tax expenditures presented in this pamphlet. Such a
reconciliation may be helpful for policy analysis, and when such
equivalency is invoked, the effect of disallowance of personal
exemptions and the standard deduction under the AMT is attenuated.
\120\ This item has two offsetting components: the denial (whether
through an itemization requirement and/or an adjusted gross income
floor test) of investment expenses (interest-related and other) not in
excess of investment income is a negative tax expenditure, while
present law's allowance of some non-interest related investment
expenses without an investment income limitation is viewed as a
positive tax expenditure. For other miscellaneous expenses that are
deductible with itemization, the present law approach is viewed as the
Code's general rule in reconciling expenses that do not have a direct
link with income with the burden that such expenses may place on
taxpayers.
---------------------------------------------------------------------------
All employee compensation is subject to tax unless the Code
contains a specific exclusion for the income. Specific
exclusions for employer-provided benefits include the
following: coverage under accident and health plans,\121\
accident and disability insurance, group term life insurance,
educational assistance, tuition reduction benefits,
transportation benefits (parking, van pools, bicycles, and
transit passes), dependent care assistance, adoption
assistance, meals and lodging furnished for the convenience of
the employer, employee awards, and other miscellaneous fringe
benefits (e.g., employee discounts, services provided to
employees at no additional cost to employers, and de minimis
fringe benefits). Each of these exclusions is classified as a
Social Spending tax expenditure in this report.
---------------------------------------------------------------------------
\121\ Present law contains an exclusion for employer-provided
coverage under accident and health plans (sec. 106) and an exclusion
for benefits received by employees under employer-provided accident and
health plans (sec. 105(b)). These two exclusions are viewed as a single
tax expenditure. Under the general rules of the Code, the value of
employer-provided accident and health coverage would be includable in
the income of employees, but employees would not be subject to tax on
the accident and health insurance benefits (reimbursements) that they
might receive.
---------------------------------------------------------------------------
Under the general rules of the Code, employer contributions
to pension plans and income earned on pension assets would be
taxable to employees as the contributions are made and as the
income is earned, and employees would not receive any deduction
or exclusion for their pension contributions. Under present
law, employer contributions to qualified pension plans and
employee contributions made at the election of the employee
through salary reduction are not taxed until distributed to the
employee, and income earned on pension assets is not taxed
until distributed. The tax expenditure for ``net exclusion of
pension contributions and earnings'' is computed as the income
taxes forgone on current tax-excluded pension contributions and
earnings less the income taxes paid on current pension
distributions (including the 10-percent additional tax paid on
early withdrawals from pension plans).
Under present law, social security and tier 1 railroad
retirement benefits are partially excluded or fully excluded
from gross income.\122\ Under the general rules of the Code,
retirees would be entitled to exclusion of only the portion of
the retirement benefits that represents a return of the payroll
taxes that they paid during their working years. Thus, the
exclusion of social security and railroad retirement benefits
in excess of payroll tax payments is classified as a Social
Spending tax expenditure.
---------------------------------------------------------------------------
\122\ For taxpayers with modified adjusted gross incomes above
certain levels, up to 85 percent of social security and tier 1 railroad
retirement benefits are includable in income.
---------------------------------------------------------------------------
All Medicare benefits are excluded from taxation. The value
of Medicare Part A insurance generally is greater than the
Health Insurance (``HI'') tax contributions that enrollees made
during their working years, the value of Medicare Part B
insurance generally is greater than the Part B premium that
enrollees must pay, and the value of Medicare Part D
(prescription drug) insurance generally is greater than the
Part D premium that enrollees must pay. The exclusion of the
value of Medicare Part A insurance in excess of HI tax
contributions is classified as a tax expenditure, as is the
exclusion of the value of Medicare Part B insurance in excess
of Part B premiums, and the exclusion of the value of Part D
insurance in excess of Part D premiums.
Public assistance benefits are excluded from gross income
by statute or by IRS regulations. Table 2 contains Social
Spending tax expenditure calculations for workers' compensation
benefits, special benefits for disabled coal miners, and cash
public assistance benefits (which include Supplemental Security
Income benefits and Temporary Assistance for Needy Families
benefits).
The individual income tax does not include in gross income
the imputed income that individuals receive from the services
provided by owner-occupied homes and durable goods.\123\
Accordingly, we do not classify this exclusion as a tax
expenditure.\124\ The measurement of imputed income for tax
purposes presents administrative problems and its exclusion
from taxable income may be regarded as an administrative
necessity.\125\ Under the general rules of the Code,
individuals would be allowed to deduct only the interest on
indebtedness incurred in connection with a trade or business or
an investment. Thus, as explained above in Section II.B.1, the
deduction for mortgage interest on a principal or second
residence is classified as a tax expenditure.
---------------------------------------------------------------------------
\123\ The National Income and Product Accounts include estimates of
this imputed income. The accounts appear in U.S. Department of
Commerce, Bureau of Economic Analysis, Survey of Current Business,
published monthly. However, a taxpayer-by-taxpayer accounting of
imputed income would be necessary for a tax expenditure calculation.
\124\ The Treasury Department provides a tax expenditure
calculation for the exclusion of net rental income of homeowners that
combines the positive tax expenditure for the failure to impute rental
income with the negative tax expenditure for the failure to allow a
deduction for depreciation and other costs.
\125\ For a discussion of ease of administration, see Joint
Committee on Taxation, A Reconsideration of Tax Expenditure Analysis
(JCX-37-08), May 12, 2008. If the imputed income from owner-occupied
homes were included in adjusted gross income, it would be proper to
include all mortgage interest deductions and related property tax
deductions as part of the normal income tax structure, because interest
and property tax deductions would be allowable as a cost of producing
imputed income. It also would be appropriate to allow deductions for
depreciation and maintenance expenses for owner-occupied homes.
---------------------------------------------------------------------------
For reasons of administrative feasibility, the general
rules of the Code tax capital gains in full in the year the
gains are realized through sale, exchange, gift, or transfer at
death. Thus, the deferral of tax until realization is not
classified as a tax expenditure, but reduced rates of tax,
further deferrals of tax (beyond the year of sale, exchange,
gift, or transfer at death), and exclusions of certain capital
gains are classified as tax expenditures.\126\ Because of the
same concern for ease of administration we also interpret the
Code as not providing for any indexing of the basis of capital
assets for changes in the general price level (although the
indexing of the personal exemption, the standard deduction, and
tax rate brackets applicable to individuals are regarded as
part of the general rules of the Code, consistent with concerns
about ability to pay and progressivity.) \127\ Thus under the
general rules of the Code, the income tax is levied on nominal
capital gains as opposed to real gains in asset values.
---------------------------------------------------------------------------
\126\ The issue of deferral, as well as other distortions in the
current system of taxing capital gains, is discussed in Section III on
Tax-Induced Structural Distortions.
\127\ A discussion of the complexity of indexing can be found in
New York State Bar Association, Tax Section, Ad Hoc Committee on
Indexation of Basis, Report on Inflation Adjustments to the Basis of
Capital Assets, June 27, 1990. Also, for neutrality any indexing of
business assets should be comprehensive and also apply to liabilities.
Thus at a minimum both interest income and interest expense should be
indexed, as described in Department of The Treasury, Tax Reform for
Fairness, Simplicity, and Economic Growth, November 1984, Vol. I,
Chapter 6, Section III.
---------------------------------------------------------------------------
There are many types of State and local government bonds
and private purpose bonds that qualify for tax-exempt status
for Federal income tax purposes. Tables 2 and 3 contain a
separate tax expenditure listing for each type of bond, and we
classify these items as Social Spending or Business Synthetic
Spending according to whether the provision primarily
subsidizes bonds linked to for-profit business activity.\128\
---------------------------------------------------------------------------
\128\ The classification of bond provisions is explained in Section
II.B.3.
---------------------------------------------------------------------------
Under our interpretation of the general rules of the Code,
compensatory stock options are subject to regular income tax at
the time the options are exercised and employers would receive
a corresponding tax deduction.\129\ The employee's income would
be equal to the difference between the purchase price of the
stock and the market price on the day the option is exercised.
Present law provides for special tax treatment for incentive
stock options and options acquired under employee stock
purchase plans. When certain requirements are satisfied, (1)
the income that is received at the time the option is exercised
is excluded for purposes of the regular income tax but, in the
case of an incentive stock option, included for purposes of the
AMT, (2) the gain from any subsequent sale of the stock is
taxed as a capital gain, and (3) the employer does not receive
a tax deduction with respect to the option.
---------------------------------------------------------------------------
\129\ If the option has a readily ascertainable fair market value,
the Code's general rules tax the option at the time it is granted and
the employer would be entitled to a deduction at that time.
---------------------------------------------------------------------------
We therefore view the special tax treatment provided to the
employee as a tax expenditure, and a calculation of this Social
Spending tax expenditure is contained in Table 2. However, it
should be noted that the revenue loss from the special tax
treatment provided to the employee is accompanied by a
significant revenue gain from the denial of the deduction to
the employer. The negative tax expenditure created by the
denial of the deduction for employers is now incorporated in
the calculation of the tax expenditure.
The individual AMT and the passive activity loss rules
reduce the magnitude of the positive tax expenditures to which
they apply. For example, the AMT reduces the value of the
deduction for State and local income taxes (for those taxpayers
subject to the AMT) by not allowing the deductions to be
claimed in the calculation of AMT liability. Similarly, the
passive loss rules defer otherwise allowable deductions and
credits from passive activities until a time when the taxpayer
has passive income or disposes of the assets associated with
the passive activity. In one case the restrictive effects of
the AMT are presented separately because there are no
underlying positive tax expenditures reflecting these effects:
the negative tax expenditures for the AMT's disallowance of
personal exemptions and the standard deduction. We do not
classify exceptions to the individual AMT and the passive loss
rules as tax expenditures because the effects of the exceptions
already are incorporated in the calculations of related tax
expenditures.
Business income taxation
Regardless of the legal form of organization (sole
proprietorship, partnership, or S or C corporation), the same
general principles are used in the computation of taxable
business income. Thus, most business tax expenditures apply
equally to unincorporated and incorporated businesses.
One of the most difficult issues in defining tax
expenditures for business income relates to the tax treatment
of capital costs. Under present law, capital costs may be
recovered under a variety of alternative methods, depending
upon the nature of the costs and the status of the taxpayer.
For example, investments in equipment and structures may
qualify for tax credits, expensing, accelerated depreciation,
or straight-line depreciation.
The Code's general rules for capital cost recovery arguably
are accelerated in many applications when compared to economic
depreciation (particularly if the effects of inflation are
ignored.) These outcomes are not identified as Tax Subsidies
because such results reflect the Code's general rules, but the
tax depreciation rules are separately analyzed as a Tax-Induced
Structural Distortion.
A Business Synthetic Spending tax expenditure has been
measured for depreciation in those specific cases where the tax
treatment of a certain type of asset deviates from the overall
treatment of other similar types of assets. For example, the
tax treatment of leasehold improvements of commercial buildings
is depreciated using a recovery period of 15 years, while the
general treatment of improvements to commercial buildings
(e.g., owned commercial buildings) is a 39 year recovery
period. In this case, the difference between depreciation (in
this case straight line) using 15 years and 39 years for the
recovery period represents Business Synthetic Spending. Thus,
we generally classify as Business Synthetic Spending those
cases where cost recovery allowances are more favorable than
the allowances provided under MACRS.
As indicated above, we do not view the Code's general rules
as requiring indexing of the basis of capital assets. Thus,
this tax expenditure analysis does not take into account the
effects of inflation on tax depreciation. Again, present law's
treatment of inflation is best analyzed as a Tax-Induced
Structural Distortion.
We follow several accounting standards noted in, or
supporting, the Code's general rules in evaluating the
provisions in the Code that govern the recognition of business
receipts and expenses. The general rules of the Code are
assumed to require the accrual method of accounting, the
standard of ``economic performance'' (used in the Code to test
whether liabilities are deductible), and the concept of
matching income and expenses. Tax provisions that do not
satisfy all three standards are viewed as tax expenditures. For
example, the deduction for contributions to taxpayer-controlled
mining reclamation reserve accounts is viewed as a tax
expenditure because the contributions do not satisfy the
economic performance standard. As another example, the
deductions for contributions to nuclear decommissioning trust
accounts and certain environmental settlement trust accounts
are not viewed as tax expenditures because the contributions
are irrevocable (i.e., they satisfy the economic performance
standard). However, present law provides for a reduced rate of
tax on the incomes of these two types of trust accounts, and
these tax rate reductions are viewed as tax expenditures. In
addition, the ad hoc indexing permitted by use of the LIFO and
lower of cost or market accounting methods are viewed as
exceptions to the general rule that the Code does not permit
indexing of business income items.
We accept as general rules of the Code the carryback and
carryforward of net operating losses. The JCT Staff also
assumes that the limits on the number of years that such losses
may be carried back or forward were chosen for reasons of
administrative convenience and compliance concerns and may be
assumed to represent the Code's general rule. Exceptions to the
general limits on carrybacks and carryforwards are viewed as
tax expenditures.
Corporate income tax
The income of corporations (other than S corporations)
generally is subject to the corporate income tax. In the Code's
realization-based system, the corporate tax is viewed as being
part of the general rules in order to ensure comprehensive
taxation of income and progressivity. The corporate income tax
includes its own graduated tax rate schedule. We classify the
lower tax rates in the schedule as a tax expenditure because
they are intended to provide tax benefits to business with
small profits and, unlike the graduated individual income tax
rates, are not related directly to concerns about ability of
individuals to pay taxes or progressivity.
Exceptions to the corporate AMT are not viewed as tax
expenditures because the effects of the AMT exceptions are
already incorporated in the calculations of related tax
expenditures.\130\
---------------------------------------------------------------------------
\130\ See discussion of individual AMT above.
---------------------------------------------------------------------------
Certain income of passthrough entities is exempt from the
corporate income tax. The income of sole proprietorships, S
corporations, and partnerships, is taxed only at the individual
level. Certain other entities are entitled to deduct dividends
paid to shareholders or are otherwise subject to special
regimes under which they generally do not pay corporate tax
(such as RICs, REITs, REMICS and cooperatives). The special tax
rules for these passthrough entities are not classified as tax
expenditures because the tax benefits are available to any
entity that chooses to organize itself and operate in the
required manner, although the general issue of entity choice is
discussed in Section III as a Tax-Induced Structural
Distortion.
Nonprofit corporations that satisfy the requirements of
Code section 501 also generally are exempt from corporate
income tax. The tax exemption of certain nonprofit cooperative
business organizations, such as trade associations, is not
treated as a tax expenditure for the same reason applicable to
for-profit pass-through business entities. With respect to
other nonprofit organizations, such as charities, tax-exempt
status is not classified as a tax expenditure because the
nonbusiness activities of such organizations generally must
predominate and their unrelated business activities are subject
to tax. Imputed income derived from nonbusiness activities
conducted by individuals or collectively by certain nonprofit
organizations is judged to be outside the Code's general rules.
However, the ability of donors to such nonprofit organizations
to claim a charitable contribution deduction is a tax
expenditure, as is the exclusion of income granted to holders
of tax-exempt financing issued by charities. In addition,
nonprofit entities are discussed as one of the Business
Synthetic Spending areas in Section II.
Comparisons with Treasury Department
The JCT Staff and Treasury Department lists of tax
expenditures differ in four respects. First, the Treasury
Department uses a different classification of those provisions
that can be considered a part of what they refer to as
``reference income tax law'' under both the individual and
business income taxes. The JCT Staff methodology using the
Code's general rules often involves a broader definition of
what constitutes a tax expenditure. Thus, the JCT Staff list of
tax expenditures includes some provisions that are not
contained in the Treasury Department list. The cash method of
accounting by certain businesses is an example. The Treasury
Department considers the cash accounting option for certain
businesses to be a part of reference income tax law, but the
JCT Staff methodology treats it as a tax expenditure because it
is viewed as a departure from the Code's general rule for
matching income and expenses.
Second, the JCT Staff and Treasury Department reports of
tax expenditures span slightly different sets of years. The
Treasury Department's report covers a seven-year period--the
last fiscal year, the current fiscal year when the President's
budget is submitted, and the next five fiscal years, i.e.,
fiscal years 2007-2013. The JCT Staff report covers a recent
fiscal year and the succeeding four fiscal years, i.e., fiscal
years 2008-2012 in the case of this pamphlet.
Third, the JCT Staff list excludes those provisions that
are projected to result in revenue changes below a de minimis
amount, i.e., less than (plus or minus) $50 million over the
five fiscal years 2008 through 2012. The Treasury Department
rounds all yearly projections to the nearest $10 million and
excludes those provisions that round to zero in each year,
i.e., provisions that result in less than $5 million in revenue
loss in each of the years in the period 2008 through 2012.
Finally, the JCT Staff approach, unlike the Treasury Department
report, now formally integrates negative tax expenditures into
its standard presentation.\131\
---------------------------------------------------------------------------
\131\ The Treasury Department analysis includes some tax
expenditures that are negative, but the negativity seems to result from
timing effects associated with expired or expiring provisions.
---------------------------------------------------------------------------
In some cases, two or more of the tax expenditure items in
the Treasury Department list have been combined into a single
item in our list, and vice versa. The descriptions of some tax
expenditures also may vary from the descriptions used by the
Treasury Department.
Quantitatively de minimis tax expenditures
The following tax provisions are viewed as tax expenditures
by the JCT Staff but are not listed in Tables 1, 2, or 3
because the projected revenue changes for fiscal years 2008
through 2012 are below a de minimis amount, $50 million:
International affairs
Miscellaneous exclusions (e.g., bond income
of residents of the Ryuku Islands, certain wagering
income, certain communication satellite earnings,
earnings from railroad rolling stock)
Energy
Expensing of tertiary injectants
Credit for production of electricity from
qualifying advanced nuclear power facilities
Credit for producing oil and gas from
marginal wells
Credit for the residential purchase of
qualified photovoltaic and solar water heating property
Credit for the construction of energy-
efficient new homes
Partial expensing of investments in advanced
mine safety equipment
Credit for costs incurred in training
qualified mine rescue team employees
Credit and deduction for small refiners with
capital costs associated with EPA sulfur regulation
compliance
Credits for biodiesel and renewable fuels
Energy research credit
Seven-year MACRS Alaska natural gas pipeline
Seven-year MACRS natural gas gathering line
Natural resources and environment
Timber mineral royalty and timber gain of
real estate investment trusts
Agriculture
Cash accounting for agriculture
Deferral of tax on gains from the sale of
stock in a qualified refiner or processor to an
eligible farmer's cooperative
Financial institutions
Bad debt reserves of financial institutions
Exclusion of investment income from
structured settlement arrangements
Other business and commerce
Deferral of gain on sales of property to
comply with conflict-of-interest requirements
Exclusion of income from discharge of
indebtedness incurred in connection with qualified real
property
Reduced rates of tax on gains from the sale
of self-created musical works
Amortization of expenses for the creation or
acquisition of musical compositions
Alaska Native Corporation trusts
Community and regional development
Five-year carryback period for certain net
operating losses of electric utility companies
Social services
Exclusion of restitution payments received
by victims of the Nazi regime and the victims' heirs
and estates
Health
Archer medical savings accounts
Income security
Credit for the elderly and disabled
Credit for new retirement plan expenses of
small businesses
Veterans' benefits and services
Burial expenses for veterans
General purpose fiscal assistance
American Samoa economic development credit
Tax expenditures for which quantification is not available
The following tax provisions are viewed as tax expenditures
by the JCT Staff but are not listed in Tables 1, 2, or 3
because the projected revenue changes are unavailable (a
provision that is a negative tax expenditure is indicated by an
``*''):
International affairs
Branch profits tax*
Deduction for U.S. employment tax paid under
section 3121(l) agreements for employees of foreign
affiliates
Doubling of tax rates on citizens and
corporations of certain foreign countries*
Energy
50-percent expensing of cellulosic biofuel
plant property
Accelerated deductions for nuclear
decommissioning costs
IGCC and advanced coal credit
Natural resources and environment
Exception to partial interest rule for
qualified conservation
Agriculture
Deduction for distributions of non-member
sourced income by farmer's cooperative
Agricultural security credit
Exceptions from dealer disposition
definition
Exception from interest calculation on
installment sales for small dispositions
Single purpose agricultural or horticultural
structures
Commerce and housing
Amortization of organizational expenditures
Deferral of prepaid subscription income
Deferral of prepaid dues income of certain
membership organizations
Amortization of partnership organization and
syndication fees
Unrecaptured section 1250 gain rate (section
1(h)): applies to depreciation taken on real property
Nonrecognition of in-kind distributions by
regulated investment companies in redemption of their
stock
Special discount rate rule for certain debt
instruments where stated principal amount is $2.8
million or less
Deduction for investment expenses*\132\
---------------------------------------------------------------------------
\132\ This item has two offsetting components: the denial (whether
through an itemization requirement and/or an adjusted gross income
floor test) of investment expenses (interest-related and other) not in
excess of investment income is a negative tax expenditure, while
present law's allowance of some non-interest related investment
expenses without an investment income limitation is viewed as a
positive tax expenditure. For other miscellaneous expenses that are
deductible with itemization, the present law approach is viewed as the
Code's general rule in reconciling expenses that do not have a direct
link with income with the burden that such expenses may place on
taxpayers.
---------------------------------------------------------------------------
Tax treatment of convertible bonds
Treatment of loans under life insurance and
annuity contracts and 401(k) plans
Net operating loss--deviations from general
rule of two-year carryback/twenty-year carryforward
Exemption for cemetery companies
Certain exceptions to the UBTI rules:
Passive income gains
Income from certain research
Trade shows and fairs
Bingo games
Pole rentals
Sponsorship payments
Real estate exception to the debt-
financed income rules
Specific identification of sold equities
Community and regional development
Exemption for electric and telephone
cooperatives
Three-year carryback of small business' and
farmers' casualty losses attributable to Presidentially
declared disaster
Employment
Allowance of 80-percent deduction for right
to purchase tickets or stadium seating
Disallowance, limitation, and heightened
substantiation for certain business deductions (e.g.,
entertainment, gift, cell phone expenses)
General purpose fiscal assistance
Exclusion of Guam, American Samoa, and
Northern Mariana Islands income
Exclusion of U.S. Virgin Islands income
Exclusion of Puerto Rico income
Cross-reference of prior and current approaches
This section cross-references all the items contained in
last year's pamphlet.\133\ In general, bond items contained in
last year's pamphlet have been categorized as Social Spending
items in Table 2 if they predominantly benefit a governmental
function or not-for-profit users; other bond items have been
categorized as Business Synthetic Spending in Table 3. All
National Defense items are classified here as Social Spending
in Table 2; the two deferral items in International Affairs are
no longer considered tax expenditures but are discussed as Tax-
Induced Structural Distortions in Section III of this pamphlet,
while the foreign earned income exclusion and the allowance for
Federal employees abroad are presented also in Table 2, and the
inventory property sales provision is a Business Synthetic
Spending item in Table 3. The General Science, Space, and
Technology items are in Table 3, and the Energy items from last
year's pamphlet are shown in Table 2, if they are statutorily
targeted at consumers, with other items now located in Table 3.
---------------------------------------------------------------------------
\133\ All items referred to in this section were presented in Joint
Committee on Taxation, Estimates of Federal Tax Expenditure for Fiscal
Years 2007-2011, (JCS-3-07), September 24, 2007.
---------------------------------------------------------------------------
Previously presented Natural Resources and Environment
items are now in Table 3, with one of the bond items now
presented in the Community and Regional Development section of
Table 3. All Agriculture items are presented as Business
Synthetic Spending provisions in Table 3. Housing items from
the Commerce and Housing area are classified as Social Spending
items in Table 2, while the non-housing Commerce and Housing
items are now in Table 3 with some exceptions.\134\ Fringe
benefit and compensation items previously presented in the
Transportation and Education, Training, Employment, and Social
Services categories can be found in those same functional
categories in Table 2. Other Transportation and Community and
Regional Development items are now in Table 3. The work
opportunity credit and the credit for orphan drug research are
shown in Table 3; all other Education, Training, Employment,
Social Services, and Health tax expenditures from last year's
pamphlet are identified in the same functional categories as
Social Spending in Table 2. All Medicare, Income Security,
Social Security and Railroad Retirement, Veterans' Benefits and
Services, and General Purpose Fiscal Assistance items are
classified as Social Spending in Table 2. The refundable
portions of the child tax credit and the earned income credit
are now presented separately in Table 1, while the
corresponding nonrefundable components are presented in Table
2, with the items keeping their respective functional
categories of Social Services and Income Security.
---------------------------------------------------------------------------
\134\ Certain depreciation items, previously classified as tax
expenditures, are not classified in this new approach as Tax Subsidies;
to preserve continuity with prior presentations, they are shown
separately in Table 4. Accelerated depreciation also is discussed in
Section III as a Tax-Induced Structural Distortions.
V. TAX EXPENDITURE TABLES
Tax expenditures are grouped in Tables 1-3 in the same
functional categories as outlays in the Federal budget.
Calculations are shown separately for individuals and
corporations. Those tax expenditures that do not fit clearly
into any single budget category have been placed in the most
appropriate category.
Table 1 contains Tax Transfer provisions. These are Tax
Subsidies that effectively operate as hybrid tax/spending
programs; each is essentially a direct spending program that
uses Code concepts to determine eligibility for the refund and
tax system infrastructure to deliver funds.
Tables 2 and 3 identify Social Spending and Business
Synthetic Spending tax expenditures, respectively.
Table 4 presents major items previously classified as tax
expenditures but not classified in this new approach as Tax
Subsidies. Some of these items are discussed in Section III on
Tax-Induced Structural Distortions.
Table 5 presents projections of tax return information for
each of nine income classes on the number of all returns
(including filing and nonfiling units), the number of taxable
returns, the number of returns with itemized deductions, and
the amount of tax liability.
Table 6 provides distributional estimates by income class
for some of the tax expenditures that affect individual
taxpayers, including for the first time this year the negative
tax expenditure for the phase out and disallowance of personal
exemptions and standard deductions. Not all tax expenditures
that affect individuals are shown in this table because of the
difficulty in making reliable estimates of the income
distribution of items that do not appear on tax returns under
present law.
?
TAX TRANSFERS
Table 1.--Tax Expenditure Estimates By Budget Function, Fiscal Years 2008-2012
[Billions of dollars]
--------------------------------------------------------------------------------------------------------------------------------------------------------
Corporations Individuals
Function --------------------------------------------------------------------------------------------- Total
2008 2009 2010 2011 2012 2008 2009 2010 2011 2012 2008-12
--------------------------------------------------------------------------------------------------------------------------------------------------------
Natural Resources and Environment
Refund of deemed tax payment to allocatee of ....... 0.3 ....... ....... ...... ........ ........ ........ ........ ....... 0.3
qualified forestry conservation bond
limitation.................................
Commerce and Housing
Housing:
Refundable first-time homebuyer credit.. ....... ....... ....... ....... ...... (1) (1) (1) (1) (1) (1)
Other business and housing:
Refundable research tax credits \2\ .... (3) 0.5 ....... ....... ...... ........ ........ ........ ........ ....... 0.4
Education, Training, Employment, and Social
Services
Social services:
Refundable tax credit for children under ....... ....... ....... ....... ...... 20.3 18.8 18.0 7.3 3.9 68.3
age 17 \4\.............................
Health
Refundable credit for purchase of health ....... ....... ....... ....... ...... (1) (1) (1) (1) (1) (1)
insurance by certain displaced workers.....
Income Security
Refundable earned income credit \4\ ........ ....... ....... ....... ....... ...... 42.4 44.3 45.3 41.7 41.0 214.7
Refundable recovery rebate.................. ....... ....... ....... ....... ...... (1) (1) (1) (1) (1) (1)
--------------------------------------------------------------------------------------------------------------------------------------------------------
1 Refundable portion combined with nonrefundable portion for respective items and presented in Table 2.
2 Transfer is limited to research credits that would otherwise expire.
3 Positive tax expenditure of less than $50 million.
4 Nonrefundable amounts are included in Table 2.
Note.--Details may not add to totals due to rounding.
Source: Joint Committee on Taxation.
SOCIAL SPENDING
Table 2.--Tax Expenditure Estimates By Budget Function, Fiscal Years 2008-2012
[Billions of dollars]
--------------------------------------------------------------------------------------------------------------------------------------------------------
Corporations Individuals
Function --------------------------------------------------------------------------------------------- Total
2008 2009 2010 2011 2012 2008 2009 2010 2011 2012 2008-12
--------------------------------------------------------------------------------------------------------------------------------------------------------
National Defense
Exclusion of benefits and allowances to ....... ....... ....... ....... ...... 3.6 3.9 4.1 4.4 4.5 20.5
armed forces personnel.....................
Exclusion of military disability benefits... ....... ....... ....... ....... ...... 0.2 0.2 0.2 0.2 0.2 1.0
Deduction for overnight-travel expenses of ....... ....... ....... ....... ...... (\1\) 0.1 0.1 0.1 0.1 0.3
national guard and reserve members.........
Exclusion of combat pay..................... ....... ....... ....... ....... ...... 1.4 1.3 1.1 0.9 0.9 5.6
International Affairs
Exclusion of certain allowances for Federal ....... ....... ....... ....... ...... 0.9 0.9 1.0 1.0 1.1 4.9
employees abroad...........................
Exclusion of foreign earned income \2\:
Housing................................. ....... ....... ....... ....... ...... 0.8 0.9 0.9 1.0 1.1 4.7
Salary.................................. ....... ....... ....... ....... ...... 4.1 4.3 4.5 4.7 4.9 22.5
Energy
Credit for energy efficiency improvements to ....... ....... ....... ....... ...... 0.8 0.3 1.0 ........ ....... 2.1
existing homes.............................
Credits for alternative technology vehicles. 0.1 (\1\) (\1\) (\1\) (\1\) 0.2 0.2 0.2 (\1\) (\1\) 1.0
Credit for holders of clean renewable energy (\1\) 0.1 0.1 0.1 0.1 (\1\) (\1\) (\1\) (\1\) (\1\) 0.5
bonds......................................
Exclusion of energy conservation subsidies ....... ....... ....... ....... ...... (\1\) (\1\) (\1\) (\1\) (\1\) 0.1
provided by public utilities...............
Credit for holder of qualified energy (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) 0.1
conservation bonds.........................
Commerce and Housing
Housing:
Deduction for mortgage interest on owner- ....... ....... ....... ....... ...... 67.0 80.1 89.4 99.8 107.3 443.6
occupied residences....................
Deduction for property taxes on real ....... ....... ....... ....... ...... 24.6 15.9 13.4 26.6 31.6 112.0
property...............................
Increased standard deduction for real ....... ....... ....... ....... ...... 0.9 2.5 0.4 ........ ....... 3.7
property taxes.........................
Exclusion of capital gains on sales of ....... ....... ....... ....... ...... 16.8 15.8 16.9 19.3 20.9 89.9
principal residences...................
Exclusion of interest on State and local 0.4 0.4 0.4 0.4 0.5 0.9 0.9 1.0 1.1 1.2 7.1
government qualified private activity
bonds for owner-occupied housing.......
Deduction for premiums for qualified ....... ....... ....... ....... ...... (\1\) 0.1 0.2 0.2 ....... 0.5
mortgage insurance.....................
Exclusion of income attributable to the ....... ....... ....... ....... ...... 0.2 0.3 0.2 0.2 0.1 1.1
discharge of principal residence
acquisition indebtedness...............
First-time homebuyer credit \3\......... ....... ....... ....... ....... ...... 0.3 13.6 -0.5 -1.9 -1.7 9.9
Transportation
Exclusion of employer-paid transportation ....... ....... ....... ....... ...... 4.0 4.1 4.3 4.9 5.2 22.4
benefits...................................
Community and Regional Development
Empowerment zone tax incentives............. 0.4 0.4 0.2 (\1\) (\1\) 0.4 0.4 0.2 0.1 0.1 2.2
Renewal community tax incentives............ 0.3 0.2 0.1 0.1 0.1 0.4 0.3 0.1 0.1 0.1 1.8
New markets tax credit...................... 0.4 0.4 0.4 0.4 0.4 0.5 0.6 0.6 0.5 0.5 4.8
Expensing of environmental remediation costs 0.1 0.1 (\1\) -0.1 -0.2 0.1 0.1 (\1\) -0.1 -0.1 0.2
(``brownfields'')..........................
District of Columbia tax incentives......... (\1\) 0.1 (\1\) (\1\) (\1\) 0.1 0.2 0.1 0.1 0.1 0.8
Disaster relief:
Katrina emergency act............... 0.1 (\1\) (\1\) (\1\) (\1\) 0.1 (\1\) (\1\) (\1\) (\1\) 0.2
Gulf opportunity zone............... 0.3 (\1\) 0.1 (\1\) (\1\) 1.3 0.6 0.4 0.3 0.2 3.3
Kansas disaster relief.............. ....... (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) 0.1
Midwest disaster relief............. ....... 0.3 0.2 0.2 0.3 ........ 0.9 0.1 0.1 0.1 2.2
National disaster relief............ ....... 0.8 1.1 0.7 0.2 ........ 1.2 0.8 0.5 0.1 5.3
Education, Training, Employment, and Social
Services
Education and training:
Deduction for interest on student loans. ....... ....... ....... ....... ...... 0.8 0.9 1.0 0.5 0.4 3.7
Deduction for higher education expenses. ....... ....... ....... ....... ...... 1.2 2.5 0.7 ........ ....... 4.5
Exclusion of earnings of Coverdell ....... ....... ....... ....... ...... 0.1 0.1 0.1 0.2 0.2 0.6
education savings accounts.............
Exclusion of interest on educational ....... ....... ....... ....... ...... (\1\) (\1\) (\1\) (\1\) (\1\) (\1\)
savings bonds..........................
Exclusion of scholarship and fellowship ....... ....... ....... ....... ...... 1.8 1.9 2.0 2.1 2.2 10.1
income.................................
Exclusion of income attributable to the ....... ....... ....... ....... ...... 0.1 0.1 0.1 0.1 0.1 0.4
discharge of certain student loan debt
and NHSC educational loan repayments...
Exclusion of employer-provided education ....... ....... ....... ....... ...... 0.8 0.8 0.9 0.9 0.9 4.3
assistance benefits....................
Exclusion of employer-provided tuition ....... ....... ....... ....... ...... 0.2 0.2 0.2 0.2 0.2 1.0
reduction benefits.....................
Parental personal exemption for students ....... ....... ....... ....... ...... 1.3 0.4 (\1\) 0.3 0.4 2.4
aged 19 to 23..........................
Exclusion of interest on State and local 0.1 0.2 0.2 0.2 0.2 0.4 0.4 0.4 0.5 0.5 3.0
government qualified private activity
bonds for student loans................
Exclusion of interest on State and local 0.8 0.8 0.9 1.0 1.0 2.0 2.1 2.2 2.5 2.6 16.0
government qualified private activity
bonds for private nonprofit and
qualified public educational facilities
Credit for holders of qualified zone 0.1 0.2 0.2 0.2 0.2 ........ ........ ........ ........ ....... 1.0
academy bonds..........................
Deduction for charitable contributions 0.4 0.4 0.5 0.5 0.5 6.0 6.3 6.6 7.0 7.7 35.9
to educational institutions............
Above-the-line deduction for teacher ....... ....... ....... ....... ...... 0.2 (\1\) ........ ........ ....... 0.2
classroom expenses.....................
Credits for tuition for post-secondary
education \2\:
Hope credit......................... ....... ....... ....... ....... ...... 2.7 1.8 2.0 2.6 2.7 11.8
Lifetime learning credit............ ....... ....... ....... ....... ...... 1.9 1.2 2.0 2.8 2.9 10.8
Exclusion of tax on earnings of
qualified tuition programs \2\:
Prepaid tuition programs............ ....... ....... ....... ....... ...... 0.1 0.1 0.1 0.2 0.2 0.6
Savings account programs............ ....... ....... ....... ....... ...... 0.5 0.5 0.8 1.1 1.3 4.1
Employment:
Exclusion of employee meals and lodging ....... ....... ....... ....... ...... 0.9 1.0 1.0 1.0 1.1 5.1
(other than military)..................
Exclusion of benefits provided under ....... ....... ....... ....... ...... 33.6 36.8 40.3 44.8 45.9 201.4
cafeteria plans \4\....................
Exclusion of housing allowances for ....... ....... ....... ....... ...... 0.6 0.6 0.7 0.7 0.7 3.3
ministers..............................
Exclusion of miscellaneous fringe ....... ....... ....... ....... ...... 6.3 6.4 6.6 7.5 8.0 34.8
benefits...............................
Exclusion of employee awards............ ....... ....... ....... ....... ...... 0.2 0.2 0.2 0.2 0.2 0.9
Exclusion of income earned by voluntary ....... ....... ....... ....... ...... 2.0 2.1 2.1 2.2 2.3 10.7
employees' beneficiary associations....
Special tax provisions for employee 0.9 1.0 1.1 1.2 1.2 0.5 0.5 0.5 0.5 0.5 6.9
stock ownership plans (ESOPs)..........
Deferral of taxation on spread on
acquisition of stock under incentive
stock option plans and employee stock
purchase plans \2\:
Deferral of taxation on spread on -0.9 -0.9 -0.9 -1.0 -1.0 0.3 0.3 0.3 0.3 0.2 -3.3
acquisition of stock under
incentive stock option plans*......
Deferral of taxation on spread on -0.2 -0.2 -0.2 -0.3 -0.3 0.1 0.1 0.1 0.1 0.1 -0.6
employee stock purchase plans*.....
Disallowance of deduction for excess -0.2 -0.2 -0.2 -0.2 -0.2 ........ ........ ........ ........ ....... -1.0
parachute payments (applicable if
payments to a disqualified individual
are contingent on a change of control
of a corporation and are equal to or
greater than three times the
individual's annualized includible
compensation) \5\*.....................
One million dollar cap on deductible -0.5 -0.5 -0.5 -0.5 -0.5 ........ ........ ........ ........ ....... -2.6
compensation for covered employees of
publicly held corporations \5\*........
Social services:
Nonrefundable tax credit for children ....... ....... ....... ....... ...... 27.3 27.1 27.2 14.1 9.4 105.1
under age 17 \6,7\.....................
Credit for child and dependent care and ....... ....... ....... ....... ...... 3.1 2.6 2.6 2.5 2.4 13.2
exclusion of employer-provided child
care \8\...............................
Credit for employer-provided dependent ....... ....... ....... ....... ...... (\1\) (\1\) (\1\) (\1\) (\1\) 0.2
care...................................
Exclusion of certain foster care ....... ....... ....... ....... ...... 0.7 0.7 0.8 0.8 0.9 3.9
payments...............................
Adoption credit and employee adoption ....... ....... ....... ....... ...... 0.4 0.4 0.4 0.1 (\1\) 1.3
benefits exclusion.....................
Deduction for charitable contributions, 2.4 2.5 2.6 2.6 2.7 34.4 35.9 37.7 40.2 43.9 204.9
other than for education and health \9\
Credit for disabled access expenditures. (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) 0.3
Health
Exclusion of employer contributions for ....... ....... ....... ....... ...... 116.8 127.4 136.9 145.0 154.2 680.3
health care, health insurance premiums, and
long-term care insurance premiums \10\.....
Exclusion of medical care and TRICARE ....... ....... ....... ....... ...... 2.1 2.2 2.3 2.5 2.6 11.7
medical insurance for military dependents,
retirees, and retiree dependents not
enrolled in Medicare.......................
Exclusion of health insurance benefits for ....... ....... ....... ....... ...... 1.2 1.3 1.4 1.7 1.9 7.5
military retirees and retiree dependents
enrolled in Medicare.......................
Deduction for health insurance premiums and ....... ....... ....... ....... ...... 4.4 4.8 5.2 5.8 6.3 26.4
long-term care insurance premiums by the
self-employed..............................
Deduction for medical expenses and long-term ....... ....... ....... ....... ...... 9.2 10.6 12.2 16.4 19.4 67.9
care expenses..............................
Exclusion of workers' compensation benefits ....... ....... ....... ....... ...... 8.1 8.8 9.5 10.3 11.2 47.8
(medical benefits).........................
Health savings accounts..................... ....... ....... ....... ....... ...... 0.5 0.7 0.9 1.2 1.6 4.9
Exclusion of interest on State and local 0.6 0.6 0.7 0.7 0.8 1.5 1.6 1.7 1.9 2.0 12.1
government qualified private activity bonds
for private nonprofit hospital facilities..
Deduction for charitable contributions to 0.3 0.3 0.3 0.3 0.3 3.9 4.0 4.3 4.6 5.0 23.2
health organizations.......................
Credit for purchase of health insurance by ....... ....... ....... ....... ...... 0.1 0.1 0.2 0.2 0.2 0.7
certain displaced persons \3\..............
Medicare
Exclusion of Medicare benefits:
Hospital insurance (Part A)............. ....... ....... ....... ....... ...... 21.9 23.7 25.7 30.1 33.1 134.4
Supplementary medical insurance (Part B) ....... ....... ....... ....... ...... 14.6 16.0 17.7 21.1 23.5 92.9
Prescription drug insurance (Part D).... ....... ....... ....... ....... ...... 4.5 5.3 5.9 6.9 6.8 29.3
Exclusion of certain subsidies to 1.1 1.1 1.1 1.1 1.1 ........ ........ ........ ........ ....... 5.4
employers who maintain prescription
drug plans for Medicare enrollees......
Income Security
Exclusion of workers' compensation benefits ....... ....... ....... ....... ...... 2.7 2.7 2.7 3.0 3.1 14.2
(disability and survivors payments)........
Exclusion of damages on account of personal ....... ....... ....... ....... ...... 1.5 1.5 1.5 1.6 1.6 7.7
physical injuries or physical sickness.....
Exclusion of special benefits for disabled ....... ....... ....... ....... ...... (\1\) (\1\) (\1\) (\1\) (\1\) 0.2
coal miners................................
Exclusion of cash public assistance benefits ....... ....... ....... ....... ...... 3.0 3.0 3.1 3.4 4.4 16.9
Net exclusion of pension contributions and
earnings:
Plans covering partners and sole ....... ....... ....... ....... ...... 9.7 9.8 13.9 18.1 19.9 71.4
proprietors (sometimes referred to as
``Keogh plans'').......................
Defined benefit plans................... ....... ....... ....... ....... ...... 42.4 42.8 42.7 42.6 42.4 212.9
Defined contribution plans.............. ....... ....... ....... ....... ...... 51.2 55.2 68.1 77.8 89.1 341.4
Individual retirement arrangements \2\:
Traditional IRAs........................ ....... ....... ....... ....... ...... 13.8 15.6 17.0 15.5 16.2 78.0
Roth IRAs............................... ....... ....... ....... ....... ...... 2.5 3.1 3.8 4.9 6.0 20.3
Credit for certain individuals for ....... ....... ....... ....... ...... 0.8 0.8 0.8 0.8 0.8 4.1
elective deferrals and IRA
contributions..........................
Exclusion of other employee benefits:
Premiums on group term life insurance... ....... ....... ....... ....... ...... 2.6 2.7 2.7 2.7 2.7 13.4
Premiums on accident and disability ....... ....... ....... ....... ...... 2.9 3.0 3.1 3.3 3.5 15.8
insurance..............................
Additional standard deduction for the blind ....... ....... ....... ....... ...... 2.0 1.9 1.8 2.2 2.6 10.5
and the elderly............................
Deduction for casualty and theft losses..... ....... ....... ....... ....... ...... 0.2 0.2 0.2 0.2 0.3 1.2
Nonrefundable earned income credit \7\...... ....... ....... ....... ....... ...... 6.2 6.3 6.4 7.9 8.7 35.4
Recovery rebate \3\......................... ....... ....... ....... ....... ...... 95.0 20.4 ........ ........ ....... 115.4
Phase out of the personal exemption and ....... ....... ....... ....... ...... -11.1 -35.7 -64.5 -54.8 -44.2 -210.2
disallowance of the personal exemption and
the standard deduction against the
alternative minimum tax*...................
Exclusion of survivor annuities paid to ....... ....... ....... ....... ...... (\1\) (\1\) (\1\) (\1\) (\1\) 0.1
families of public safety officers killed
in the line of duty........................
Exclusion of disaster mitigation payments... (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) 0.2
Social Security and Railroad Retirement
Exclusion of untaxed social security and ....... ....... ....... ....... ...... 24.2 25.7 27.8 34.1 35.3 147.1
railroad retirement benefits...............
Veterans' Benefits and Services
Exclusion of veterans' disability ....... ....... ....... ....... ...... 3.6 3.7 3.8 4.1 4.2 19.4
compensation...............................
Exclusion of veterans' pensions............. ....... ....... ....... ....... ...... 0.1 0.1 0.1 0.1 0.1 0.6
Exclusion of veterans' readjustment benefits ....... ....... ....... ....... ...... 0.4 0.5 0.8 1.0 1.2 3.9
Exclusion of interest on State and local (\1\) (\1\) (\1\) (\1\) (\1\) 0.1 0.1 0.1 0.1 0.1 0.4
government qualified private activity bonds
for veterans' housing......................
General Purpose Fiscal Assistance
Exclusion of interest on public purpose 7.4 7.7 8.0 8.4 8.8 19.0 19.7 20.4 23.2 24.0 146.6
State and local government bonds...........
Deducation of nonbusiness State and local ....... ....... ....... ....... ...... 48.0 37.0 33.8 57.0 66.4 242.1
government income taxes, sales taxes, and
personal property taxes....................
Interest
Deferral of interest on savings bonds....... ....... ....... ....... ....... ...... 1.2 1.2 1.2 1.3 1.3 6.2
--------------------------------------------------------------------------------------------------------------------------------------------------------
\1\ Positive tax expenditure of less than $50 million.
\2\ In prior tables, this provision was presented on a consolidated basis.
\3\ Includes both refundable and nonrefundable amounts.
\4\ Estimate includes amounts of employer-provided health insurance purchased through cafeteria plans and employer-provided child care purchased through
dependent care flexible spending accounts. These amounts are also included in other line items in this table.
\5\ Estimate does not include effects of changes made by the Emergency Economic Stabilization Act of 2008.
\6\ Tax expenditure estimate includes amounts used to offset income taxes and amounts used to offset other taxes.
\7\ Refundable amounts are in Table 1.
\8\ Estimate includes employer-provided child care purchased through dependent care flexible spending accounts.
\9\ In addition to the general charitable deduction, the tax expenditure accounts for the higher percentage limitation for public charities, the fair
market value deduction for related-used tangible personal property, the enhanced deduction for inventory, the fair market value deduction for publicly
traded stock and exceptions to the partial interest rules.
\10\ Estimate includes employer-provided health insurance purchased through cafeteria plans.
Note.--Details may not add to totals due to rounding. An ``*'' indicates a negative tax expenditure for the 2008-12 period.
Source: Joint Committee on Taxation.
BUSINESS SYNTHETIC SPENDING
Table 3.--Tax Expenditure Estimates By Budget Function, Fiscal Years 2008-2012
[Billions of dollars]
--------------------------------------------------------------------------------------------------------------------------------------------------------
Corporations Individuals Total
Function -------------------------------------------------------------------------------------------------------
2008 2009 2010 2011 2012 2008 2009 2010 2011 2012 2008-12
--------------------------------------------------------------------------------------------------------------------------------------------------------
International Affairs
Inventory property sales source rule 6.8 7.0 7.2 7.4 7.6 ........ ........ ........ ........ ....... 36.0
exception..................................
Deduction for foreign taxes instead of a 0.2 0.2 0.2 0.2 0.3 (\1\) (\1\) (\1\) (\1\) (\1\) 1.3
credit.....................................
Interest expense allocation:
Unavailability of symmetric worldwide -2.2 -2.5 -2.7 -2.9 -0.5 ........ ........ ........ ........ ....... -10.8
method*................................
Separate grouping of affiliated 1.0 1.1 1.2 1.3 1.4 ........ ........ ........ ........ ....... 6.0
financial companies....................
Apportionment of research and development 0.3 0.3 0.3 0.3 0.4 ........ ........ ........ ........ ....... 1.6
expenses for determination of foreign tax
credits....................................
Special rules for interest-charge domestic 0.4 0.5 0.5 0.1 0.1 ........ ........ ........ ........ ....... 1.6
international sales corporations...........
Taxation of real property gains of foreign (\2\) (\2\) (\2\) (\2\) (\2\) (\2\) (\2\) (\2\) (\2\) (\2\) -0.3
persons*...................................
Tonnage tax................................. 0.1 0.1 0.1 0.1 0.1 ........ ........ ........ ........ ....... 0.5
General Science, Space, and Technology
Credit for increasing research activities... 4.9 5.6 3.6 2.8 2.2 0.1 0.1 (\1\) (\1\) (\1\) 19.5
Expensing of research and experimental 3.1 4.8 5.6 6.7 7.8 0.1 0.1 0.1 0.1 0.2 28.3
expenditures...............................
Energy
Energy related credits:
Credit for enhanced oil recovery costs.. (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) 0.2
Credit for producing fuels from a non- 0.1 0.1 (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) 0.6
conventional source....................
Credits for alcohol fuels \3\........... 0.1 0.1 0.1 (\1\) ...... ........ ........ ........ ........ ....... 0.3
Energy credit (section 48):
Solar............................... (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\)
Geothermal.......................... (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\)
Fuel cells.......................... (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\)
Microturbines....................... ....... ....... ....... ....... ...... (\1\) (\1\) (\1\) (\1\) (\1\) (\1\)
Credits for electricity production from
renewable resources (section 45):
Wind................................ 0.6 0.8 0.9 0.9 0.9 (\1\) (\1\) (\1\) (\1\) (\1\) 4.1
Closed-loop biomass................. (\1\) (\1\) (\1\) (\1\) (\1\) ........ ........ ........ ........ ....... (\1\)
Geothermal.......................... (\1\) (\1\) (\1\) (\1\) (\1\) ........ ........ ........ ........ ....... 0.2
Qualified hydropower................ (\1\) (\1\) (\1\) (\1\) (\1\) ........ ........ ........ ........ ....... 0.1
Solar (limited to facilities placed (\1\) (\1\) (\1\) (\1\) (\1\) ........ ........ ........ ........ ....... 0.1
in service before 1/1/06)..........
Small irrigation power.............. (\1\) (\1\) (\1\) (\1\) (\1\) ........ ........ ........ ........ ....... 0.1
Municipal solid waste............... (\1\) (\1\) (\1\) (\1\) (\1\) ........ ........ ........ ........ ....... 0.2
Open-loop biomass................... 0.3 0.4 0.3 0.2 0.2 (\1\) (\1\) (\1\) (\1\) (\1\) 1.5
Credits for investments in clean coal 0.2 0.2 0.2 0.1 0.1 ........ ........ ........ ........ ....... 0.8
facilities.............................
Coal production credits:
Refined coal........................ (\1\) (\1\) (\1\) (\1\) (\1\) ........ ........ ........ ........ ....... 0.1
Indian coal......................... (\1\) (\1\) (\1\) (\1\) (\1\) ........ ........ ........ ........ ....... 0.1
Credit for the production of energy- 0.1 0.1 0.1 (\1\) ...... ........ ........ ........ ........ ....... 0.3
efficient appliances...................
Credits for alternative technology
vehicles:
Hybrid vehicles..................... (\1\) (\1\) (\1\) (\1\) (\1\) 0.2 0.2 0.2 0.1 (\1\) 0.9
Other alternative fuel vehicles..... (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) 0.1
Credit for clean-fuel vehicle refueling (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) 0.1
property...............................
Residential energy efficient property ....... ....... ....... ....... ...... (\1\) (\1\) ........ ........ ....... 0.1
credit.................................
New energy efficient home credit........ (\1\) (\1\) (\1\) (\1\) (\1\) ........ ........ ........ ........ ....... 0.1
Energy-related exclusions from income:
Exclusion of interest on State and local (\1\) (\1\) (\1\) (\1\) (\1\) 0.1 0.1 0.1 0.1 0.1 0.6
government qualified private activity
bonds for energy production facilities.
Energy-related deductions:
Deduction for expenditures on energy- (\1\) 0.1 0.1 0.1 0.1 (\1\) (\1\) (\1\) (\1\) (\1\) 0.2
efficient commercial building property.
Eight-year inclusion from sale of 0.3 0.2 (\1\) -0.1 -0.1 (\1\) (\1\) (\1\) (\1\) (\1\) 0.3
electric transmission assets to
independent utilities..................
Expensing of exploration and development
costs:
Oil and gas......................... 2.1 3.0 1.7 0.4 0.4 (\1\) (\1\) (\1\) (\1\) (\1\) 7.2
Other fuels......................... (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) 0.3
Excess of percentage over cost
depletion:
Oil and gas......................... 1.3 1.4 1.4 1.4 1.4 (\1\) (\1\) (\1\) (\1\) (\1\) 7.1
Other fuels......................... 0.1 0.1 0.1 0.1 0.1 (\1\) (\1\) (\1\) (\1\) (\1\) 0.8
Amortization of geological and 0.1 0.2 0.2 0.2 0.2 (\1\) 0.1 0.1 0.1 0.1 1.3
geophysical expenditures associated
with oil and gas exploration...........
Amortization of air pollution control 0.1 0.1 0.1 0.2 0.2 (\1\) (\1\) (\1\) (\1\) (\1\) 0.6
facilities.............................
Depreciation recovery periods for energy
specific items:
Five-year MACRS for certain energy 0.2 0.1 0.1 0.1 0.1 (\1\) (\1\) (\1\) (\1\) (\1\) 0.5
property (solar, wind, etc.).......
10-year MACRS for smart electric (\1\) (\1\) (\1\) (\1\) (\1\) 0.1 (\1\) (\1\) (\1\) (\1\) 0.1
distribution property..............
15-year MACRS for certain electric (\1\) 0.1 0.1 0.2 0.2 (\1\) (\1\) (\1\) (\1\) (\1\) 0.6
transmission property..............
15-year MACRS for natural gas 0.1 0.1 0.1 0.1 0.1 (\1\) (\1\) (\1\) (\1\) (\1\) 0.6
distribution line..................
Election to expense 50 percent of 0.4 1.1 0.9 0.8 0.6 (\1\) (\1\) (\1\) (\1\) (\1\) 3.8
qualified property used to refine
liquid fuels...........................
Exceptions for publicly traded ....... ....... ....... ....... ...... 0.4 0.4 0.5 0.6 0.6 2.6
partnership with qualified income
derived from certain energy-related
activities.............................
Natural Resources and Environment
Special depreciation allowance for certain (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) 0.1
reuse and recycling property...............
Expensing of exploration and development 0.1 0.1 0.1 0.1 0.1 (\1\) (\1\) (\1\) (\1\) (\1\) 0.5
costs, nonfuel minerals....................
Excess of percentage over cost depletion, 0.1 0.1 0.1 0.1 0.1 0.1 0.1 0.1 0.1 0.1 1.2
nonfuel minerals...........................
Expensing of timber-growing costs........... 0.2 0.2 0.2 0.2 0.2 (\1\) (\1\) (\1\) (\1\) (\1\) 1.1
Special rules for mining reclamation (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) 0.2
reserves...................................
Special tax rate for nuclear decommissioning 0.7 0.8 0.8 0.9 1.0 ........ ........ ........ ........ ....... 4.2
reserve funds..............................
Exclusion of contributions in aid of (\1\) (\1\) (\1\) (\1\) (\1\) ........ ........ ........ ........ ....... 0.2
construction for water and sewer utilities.
Exclusion of earnings of certain (\1\) (\1\) (\1\) (\1\) (\1\) ........ ........ ........ ........ ....... 0.1
environmental settlement funds.............
Amortization and expensing of reforestation (\1\) (\1\) (\1\) (\1\) (\1\) 0.1 0.1 0.1 0.1 0.1 0.5
expenditures...............................
Gain or loss in the case of timber, coal, or ....... ....... ....... ....... ...... 0.4 0.4 0.4 0.4 0.4 2.1
domestic iron ore..........................
Special tax rate for qualified timber gain.. (\1\) 0.1 (\1\) (\1\) (\1\) ........ ........ ........ ........ ....... 0.1
Treatment of income from exploration and ....... ....... ....... ....... ...... (\1\) (\1\) (\1\) (\1\) (\1\) 0.1
mining of natural resources as qualifying
income under the publicly-traded
partnership rules..........................
Agriculture
Expensing of soil and water conservation (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) 0.2
expenditures...............................
Expensing of the costs of raising dairy and (\1\) (\1\) (\1\) (\1\) (\1\) 0.1 0.1 0.1 0.1 0.1 0.5
breeding cattle............................
Exclusion of cost-sharing payments.......... (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) 1.0
Exclusion of cancellation of indebtedness ....... ....... ....... ....... ...... 0.1 0.1 0.1 0.1 0.1 0.5
income of farmers..........................
Income averaging for farmers and fishermen.. ....... ....... ....... ....... ...... (\1\) (\1\) (\1\) (\1\) (\1\) 0.2
Five-year carryback period for net operating (\1\) 0.1 0.1 0.1 0.1 (\1\) 0.1 0.1 0.1 0.1 0.7
losses attributable to farming.............
Expensing by farmers for fertilizer and soil (\1\) (\1\) (\1\) (\1\) (\1\) 0.2 0.1 0.1 0.1 0.1 0.6
conditioner costs..........................
Commerce and Housing
Financial institutions:
Exemption of credit union income........ 1.4 1.5 1.6 1.7 1.8 ........ ........ ........ ........ ....... 7.9
Insurance companies:
Exclusion of investment income on life 2.6 2.7 2.7 2.8 2.9 26.8 27.5 28.2 28.9 29.7 154.8
insurance and annuity contracts........
Small life insurance company taxable 0.1 0.1 0.1 0.1 0.1 ........ ........ ........ ........ ....... 0.3
income adjustment......................
Special treatment of life insurance 2.0 2.1 2.2 2.3 2.4 ........ ........ ........ ........ ....... 11.0
company reserves.......................
Special deduction for Blue Cross and 1.0 1.0 1.1 1.1 1.1 ........ ........ ........ ........ ....... 5.3
Blue Shield companies..................
Tax-exempt status and election to be 0.1 0.1 0.1 0.1 0.1 ........ ........ ........ ........ ....... 0.3
taxed only on investment income for
certain small property and casualty
insurance companies....................
Interest rate and discounting period 0.6 0.6 0.7 0.7 0.7 ........ ........ ........ ........ ....... 3.2
assumptions for reserves of property
and casualty insurance companies.......
15-percent proration for property and 0.3 0.3 0.3 0.4 0.4 ........ ........ ........ ........ ....... 1.7
casualty insurance companies...........
Housing:
Credit for low-income housing........... 4.8 5.1 5.5 5.9 6.3 0.6 0.6 0.7 0.7 0.7 30.9
Credit for rehabilitation of historic 0.3 0.3 0.3 0.4 0.4 0.1 0.1 0.1 0.2 0.2 2.4
structures.............................
Credit for rehabilitation of structures, (\1\) (\1\) (\1\) 1.0 1.0 0.1 0.1 0.2 0.2 0.2 2.8
other than historic structures.........
Exclusion of interest on State and local 0.2 0.2 0.2 0.3 0.3 0.6 0.6 0.6 0.7 0.7 4.5
government qualified private activity
bonds for rental housing...............
Other business and commerce:
Exclusion of interest on State and local 0.1 0.1 0.1 0.1 0.2 0.3 0.3 0.3 0.4 0.4 2.4
government small-issue qualified
private activity bonds.................
Carryover basis of capital gains on ....... ....... ....... ....... ...... 2.5 1.8 14.3 14.6 3.5 36.7
gifts..................................
15-year recovery period for:
Leasehold improvement property...... 0.4 1.0 1.0 0.6 0.5 0.5 1.2 1.2 0.7 0.7 7.7
Restaurant property................. 0.1 0.1 0.1 0.1 0.1 0.1 0.1 0.1 0.1 0.1 1.2
Retail improvements................. (\1\) (\1\) (\1\) 0.1 0.1 (\1\) (\1\) (\1\) 0.1 0.1 0.4
Retail motor fuels outlets.......... 0.1 0.2 0.1 0.1 0.1 0.1 0.2 0.2 0.1 0.1 1.5
Seven-year recovery period for (\1\) 0.1 (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) 0.2
motorsports entertainment complexes....
Deferral of gain on non-dealer 1.1 1.2 1.3 1.4 1.5 0.5 0.5 0.6 0.7 0.7 9.5
installment sales......................
Deferral of gain on like-kind exchanges. 3.0 3.0 3.1 3.2 3.3 1.1 1.1 1.2 1.1 1.1 21.2
Expensing under section 179 of 1.0 1.0 0.5 -0.1 -1.4 4.4 4.1 2.0 -0.5 -5.8 5.2
depreciable business property..........
Amortization of business startup costs.. (\1\) (\1\) (\1\) (\1\) (\1\) 0.8 0.9 0.9 1.0 1.0 4.6
Reduced rates on first $10,000,000 of 3.3 3.3 3.2 3.2 3.2 (\1\) (\1\) (\1\) (\1\) (\1\) 16.3
corporate taxable income...............
Exemptions from imputed interest rules.. (\1\) (\1\) (\1\) (\1\) (\1\) 0.5 0.5 0.5 0.5 0.6 2.6
Expensing of magazine circulation (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) 0.1
expenditures...........................
Special rules for magazines, paperback (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) 0.2
book, and record returns...............
Completed contract rules................ 0.5 0.5 0.6 0.6 0.7 (\1\) (\1\) (\1\) (\1\) (\1\) 3.0
Cash accounting, other than agriculture. (\1\) (\1\) (\1\) (\1\) (\1\) 0.9 0.9 1.0 1.0 1.1 5.0
Credit for employer-paid FICA taxes on 0.3 0.3 0.3 0.3 0.4 0.2 0.2 0.2 0.2 0.2 2.6
tips...................................
Deduction for certain film and 0.2 0.2 (\2\) (\2\) (\2\) (\1\) (\1\) (\2\) (\2\) (\2\) 0.1
television production costs............
Deduction for income attributable to 5.5 6.0 7.3 8.6 9.4 1.8 2.0 2.7 3.5 3.9 50.7
domestic production activities.........
Credit for the cost of carrying tax-paid (\1\) (\1\) (\1\) (\1\) (\1\) ........ ........ ........ ........ ....... 0.1
distilled spirits in wholesale
inventories............................
Reduced rates of tax on dividends and ....... ....... ....... ....... ...... 150.2 148.1 161.6 107.5 100.6 668.1
long-term capital gains................
Exclusion of capital gains at death..... ....... ....... ....... ....... ...... 26.5 28.3 30.4 37.6 45.2 168.0
Expensing of costs to remove (\1\) (\1\) (\1\) (\1\) (\1\) 0.1 0.1 0.1 0.1 0.1 0.6
architectural and transportation
barriers to the handicapped and elderly
Reduced tax rate on small business stock ....... ....... ....... ....... ...... 0.5 0.5 0.5 0.5 0.4 2.4
gains..................................
Distributions in redemption of stock to ....... ....... ....... ....... ...... 0.3 0.3 0.3 (\1\) 0.5 1.3
pay death taxes........................
Ordinary gain or loss treatment for sale ....... 2.6 0.4 0.2 0.1 ........ 0.1 (\1\) (\1\) (\1\) 3.4
or exchange of Fannie Mae and Freddie
Mac preferred stock by certain
financial institutions.................
Inventory methods and valuation:
Last in first out................... 3.5 3.7 3.9 4.1 4.3 0.5 0.5 0.5 0.6 0.6 22.2
Lower of cost or market............. 2.2 0.3 0.4 0.4 0.5 0.6 0.1 0.1 0.1 0.1 4.8
Specific identification for (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) 0.2
homogeneous products...............
Exclusion of gain or loss on sale or (\1\) (\1\) (\1\) (\1\) (\1\) ........ ........ ........ ........ ....... 0.1
exchange of brownfield property........
60-40 rule for gain or loss from section 0.1 0.1 0.1 0.1 0.1 2.2 2.1 2.4 1.8 1.9 10.8
1256 contracts.........................
Net alternative minimum tax attributable -0.7 -0.7 -0.6 -0.6 -0.6 -0.1 -0.1 -0.1 -0.1 -0.1 -3.6
to depreciation adjustment and net
operating loss limitation*.............
Exclusion of interest on State and local (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) 0.1
qualified private activity bonds for
green buildings and sustainable design
projects...............................
Transportation
Credit for certain expenditures on railroad 0.1 0.1 (\1\) (\1\) (\1\) ........ ........ ........ ........ ....... 0.2
track maintenance..........................
Deferral of tax on capital construction 0.1 0.1 0.1 0.1 0.1 ........ ........ ........ ........ ....... 0.5
funds of shipping companies................
Exclusion of interest on State and local (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) (\1\) 0.1
government qualified private activity bonds
for highway projects and rail-truck
transfer facilities........................
Community and Regional Development
Accelerated depreciation for business 0.2 0.2 0.1 -0.1 -0.2 0.1 0.1 (\1\) -0.1 -0.1 0.2
property on Indian reservations............
Credit for Indian reservation employment.... (\1\) (\1\) (\1\) ....... ...... (\1\) (\1\) (\1\) ........ ....... 0.2
Exclusion of interest on State and local 0.3 0.3 0.3 0.3 0.3 0.7 0.7 0.7 0.8 0.9 5.4
government qualified private activity bonds
for private airports, docks, and mass-
commuting facilities.......................
Exclusion of interest on State and local 0.2 0.2 0.2 0.2 0.2 0.4 0.4 0.4 0.5 0.5 3.1
government qualified private activity bonds
for sewage, water, and hazardous waste
facilities.................................
Education, Training, Employment, and Social
Services
Employment:
Work opportunity tax credit............. 0.5 0.5 0.6 0.5 0.4 0.1 0.1 0.1 0.1 0.1 3.1
Health
Credit for orphan drug research............. 0.3 0.3 0.3 0.4 0.4 (\1\) (\1\) (\1\) (\1\) (\1\) 1.7
--------------------------------------------------------------------------------------------------------------------------------------------------------
\1\ Positive tax expenditure of less than $50 million.
\2\ Negative tax expenditure of less than $50 million.
\3\ In addition, the credit from excise tax for alcohol fuels results in a reduction in excise tax receipts, net of income tax effect, of $13.6 billion
over the fiscal years 2008 through 2012.
Note.--Details may not add to totals due to rounding. An ``*'' indicates a negative tax expenditure for the 2008-12 period.
Source: Joint Committee on Taxation.
MAJOR PROVISIONS NOT CLASSIFIED AS TAX SUBSIDIES
Table 4.--Tax Expenditure Estimates By Budget Function, Fiscal Years 2008-2012 \1\
[Billions of dollars]
--------------------------------------------------------------------------------------------------------------------------------------------------------
Corporations Individuals
Function --------------------------------------------------------------------------------------------- Total
2008 2009 2010 2011 2012 2008 2009 2010 2011 2012 2008-12
--------------------------------------------------------------------------------------------------------------------------------------------------------
International Affairs
Deferral of active income of controlled 9.6 10.5 11.3 12.1 12.9 ........ ........ ........ ........ ....... 56.4
foreign corporations.......................
Deferral of active financing income of 2.6 2.9 1.0 ....... ...... ........ ........ ........ ........ ....... 6.5
controlled foreign corporations............
Commerce and Housing
Housing:
Depreciation of rental housing in excess 0.4 0.5 0.5 0.5 0.5 3.8 4.1 4.8 4.9 4.8 24.9
of alternative depreciation system.....
Other business and commerce:
Depreciation of buildings other than 0.9 1.7 1.7 1.1 1.1 0.7 1.4 1.4 0.9 0.9 12.1
rental housing in excess of alternative
depreciation system....................
Depreciation of equipment in excess of 32.6 20.7 6.3 13.5 18.6 6.9 4.4 1.3 2.9 3.9 111.1
the alternative depreciation system....
--------------------------------------------------------------------------------------------------------------------------------------------------------
\1\ These calculations are provided for historical comparison. The deferral calculations use full inclusion of the income of controlled foreign
corporations as the standard, and the depreciation calculations use straight-line depreciation as the standard.
Note.--Details may not add to totals due to rounding.
Source: Joint Committee on Taxation.
Table 5.--Distribution by Income Class of All Returns, Taxable Returns, Itemized Returns, and Tax Liability at
2007 Rates and 2007 Law and 2007 Income Levels \1\
[Money amounts in millions of dollars, returns in thousands]
----------------------------------------------------------------------------------------------------------------
All Returns Taxable Itemized Tax
Income Class \2\ \3\ Returns Returns Liability
----------------------------------------------------------------------------------------------------------------
Below $10,000............................................... 28,213 164 427 -$7,010
$10,000 to $20,000.......................................... 22,240 4,997 1,059 -16,542
$20,000 to $30,000.......................................... 16,542 7,845 1,815 -8,413
$30,000 to $40,000.......................................... 14,599 9,180 2,904 6,349
$40,000 to $50,000.......................................... 12,532 9,211 3,599 18,889
$50,000 to $75,000.......................................... 21,923 19,210 9,307 77,056
$75,000 to $100,000......................................... 13,976 13,498 8,265 87,698
$100,000 to $200,000........................................ 19,207 19,066 15,529 259,101
$200,000 and over........................................... 5,566 5,554 5,143 625,936
---------------------------------------------------
Total................................................. 154,798 88,723 48,046 $1,043,065
----------------------------------------------------------------------------------------------------------------
\1\ Tax law as in effect on December 31, 2007 is applied to the 2008 level and sources of income and their
distribution among taxpayers.
\2\ The income concept used to place tax returns into classes is adjusted gross income (``AGI'') plus: (a) tax-
exempt interest, (b) employer contributions for health plans and life insurance, (c) employer share of FICA
tax, (d) workers' compensation, (e) nontaxable Social Security benefits, (f) insurance value of Medicare
benefits, (g) alternative minimum tax preference items, and (h) excluded income of U.S. citizens living
abroad.
\3\ Includes filing and non-filing units. Filing units include all taxable and nontaxable returns. Non-filing
units include individuals with income that is exempt from Federal income taxation (e.g., transfer payments,
interest from tax-exempt bonds, etc.). Excludes individuals who are dependents of other taxpayers and
taxpayers with negative income.
Note.--Details may not add to totals due to rounding.
Source: Joint Committee on Taxation.
Table 6.--Distribution by Income Class of Selected Individual Tax Expenditure Items, at 2007 Rates and 2007
Income Levels \1\
[Money amounts in millions of dollars, returns in thousands]
----------------------------------------------------------------------------------------------------------------
Medical Deduction Real Estate Tax
-------------------------- Deduction
Income Class \2\ -------------------------
Returns Amount Returns Amount
----------------------------------------------------------------------------------------------------------------
Below $10,000............................................... 853 $8 3 (\3\)
$10,000 to $20,000.......................................... 1,329 11,308 211 27
$20,000 to $30,000.......................................... 1,433 11,221 709 129
$30,000 to $40,000.......................................... 1,352 9,316 1,635 357
$40,000 to $50,000.......................................... 1,219 8,551 2,406 636
$50,000 to $75,000.......................................... 2,296 15,760 7,339 2,880
$75,000 to $100,000......................................... 1,204 10,311 7,160 3,364
$100,000 to $200,000........................................ 923 10,237 13,998 11,583
$200,000 and over........................................... 93 719 2,843 5,434
---------------------------------------------------
Total................................................. 10,702 $77,431 36,304 $24,411
----------------------------------------------------------------------------------------------------------------
Footnotes appear at the end of the table.
Table 6.--Distribution by Income Class of Selected Individual Tax Expenditure Items, at 2007 Rates and 2007
Income Levels \1\--Continued
[Money amounts in millions of dollars, returns in thousands]
----------------------------------------------------------------------------------------------------------------
State and Local Income, Charitable Contributions
Sales and Personal Deduction
Income Class \2\ Property Tax Deduction -------------------------
--------------------------
Returns Amount Returns Amount
----------------------------------------------------------------------------------------------------------------
Below $10,000............................................... 13 (\3\) 11 $1
$10,000 to $20,000.......................................... 305 $12 219 22
$20,000 to $30,000.......................................... 992 77 771 113
$30,000 to $40,000.......................................... 2,248 255 1,791 338
$40,000 to $50,000.......................................... 3,149 520 2,541 651
$50,000 to $75,000.......................................... 8,985 2,805 7,538 2,706
$75,000 to $100,000......................................... 8,321 3,693 7,269 3,254
$100,000 to $200,000........................................ 15,304 15,307 14,401 11,236
$200,000 and over........................................... 4,037 24,468 4,903 22,580
---------------------------------------------------
Total................................................. 43,354 $47,137 39,442 $40,902
----------------------------------------------------------------------------------------------------------------
Footnotes appear at the end of the table.
Table 6.--Distribution by Income Class of Selected Individual Tax Expenditure Items, at 2007 Rates and 2007
Income Levels \1\--Continued
[Money amounts in millions of dollars, returns in thousands]
----------------------------------------------------------------------------------------------------------------
Child Care Credit Earned Income Credit \4\
Income Class \2\ ---------------------------------------------------
Returns Amount Returns Amount
----------------------------------------------------------------------------------------------------------------
Below $10,000............................................... ........... ........... 5,795 $6,660
$10,000 to $20,000.......................................... 215 $57 6,575 17,091
$20,000 to $30,000.......................................... 817 453 4,767 12,631
$30,000 to $40,000.......................................... 812 511 3,937 7,100
$40,000 to $50,000.......................................... 563 308 2,167 2,867
$50,000 to $75,000.......................................... 1,274 686 827 738
$75,000 to $100,000......................................... 1,007 538 9 13
$100,000 to $200,000........................................ 1,316 701 (\5\) 1
$200,000 and over........................................... 264 138 ........... ...........
---------------------------------------------------
Total................................................. 6,269 $3,391 24,076 $47,102
----------------------------------------------------------------------------------------------------------------
Footnotes appear at the end of the table.
Table 6.--Distribution by Income Class of Selected Individual Tax Expenditure Items, at 2007 Rates and 2007
Income Levels \1\--Continued
[Money amounts in millions of dollars, returns in thousands]
----------------------------------------------------------------------------------------------------------------
Untaxed Social Security Child Tax Credit \4\
and Railroad Retirement -------------------------
Income Class \2\ Benefits
-------------------------- Returns Amount
Returns Amount
----------------------------------------------------------------------------------------------------------------
Below $10,000............................................... 73 $2 215 $296
$10,000 to $20,000.......................................... 7,663 2,613 2,894 1,519
$20,000 to $30,000.......................................... 4,506 4,980 4,033 4,517
$30,000 to $40,000.......................................... 3,168 4,333 3,984 5,794
$40,000 to $50,000.......................................... 2,724 3,902 3,373 5,409
$50,000 to $75,000.......................................... 4,829 5,562 6,087 10,202
$75,000 to $100,000......................................... 2,571 1,008 4,708 8,105
$100,000 to $200,000........................................ 2,577 757 6,242 9,546
$200,000 and over........................................... 842 300 17 11
---------------------------------------------------
Total................................................. 28,952 $23,456 31,553 $45,402
----------------------------------------------------------------------------------------------------------------
Footnotes appear at the end of the table.
Table 6.--Distribution by Income Class of Selected Individual Tax Expenditure Items, at 2007 Rates and 2007
Income Levels \1\--Continued
[Money amounts in millions of dollars, returns in thousands]
----------------------------------------------------------------------------------------------------------------
Education Credits Student Loan Interest
-------------------------- Deduction
Income Class \2\ -------------------------
Returns Amount Returns Amount
----------------------------------------------------------------------------------------------------------------
Below $10,000.............................................. 1 (\3\) 13 $1
$10,000 to $20,000......................................... 492 $103 212 13
$20,000 to $30,000......................................... 901 379 433 33
$30,000 to $40,000......................................... 894 456 700 61
$40,000 to $50,000......................................... 819 459 745 85
$50,000 to $75,000......................................... 1,487 914 1,593 213
$75,000 to $100,000........................................ 1,370 1,040 1,166 127
$100,000 to $200,000....................................... 1,217 899 1,679 271
$200,000 and over.......................................... (\5\) (\3\) (\5\) (\3\)
---------------------------------------------------
Total................................................. 7,180 $4,250 6,541 $804
----------------------------------------------------------------------------------------------------------------
Footnotes appear at the end of the table.
Table 6.--Distribution by Income Class of Selected Individual Tax Expenditure Items, at 2007 Rates and 2007
Income Levels \1\--Continued
[Money amounts in millions of dollars, returns in thousands]
----------------------------------------------------------------------------------------------------------------
Mortgage Interest Phase Out of the
Deduction Personal Exemption and
-------------------------- AMT Disallowance of the
Income Class \2\ Personal Exemption and
the Standard Deduction
Returns Amount -------------------------
Returns Amount
----------------------------------------------------------------------------------------------------------------
Below $10,000............................................... 5 (\3\) 1 (\6\)
$10,000 to $20,000.......................................... 266 $73 9 -$4
$20,000 to $30,000.......................................... 736 321 5 -3
$30,000 to $40,000.......................................... 1,566 842 (\5\) (\6\)
$40,000 to $50,000.......................................... 2,307 1,513 (\5\) (\6\)
$50,000 to $75,000.......................................... 6,998 7,062 37 -25
$75,000 to $100,000......................................... 6,821 8,150 95 -82
$100,000 to $200,000........................................ 13,510 28,868 984 -1,028
$200,000 and over........................................... 4,059 19,771 4,359 -10,168
---------------------------------------------------
Total................................................. 36,269 $66,600 5,491 -$11,310
----------------------------------------------------------------------------------------------------------------
\1\ Excludes individuals who are dependents of other taxpayers and taxpayers with negative income.
\2\ The income concept used to place tax returns into classes is adjusted gross income (``AGI'') plus: (a) tax-
exempt interest, (b) employer contributions for health plans and life insurance, (c) employer share of FICA
tax, (d) workers' compensation, (e) nontaxable Social Security benefits, (f) insurance value of Medicare
benefits, (g) alternative minimum tax preference items, and (h) excluded income of U.S. citizens living
abroad.
\3\ Positive tax expenditure of less than $500,000.
\4\ Includes the refundable portion.
\5\ Less than 500 returns.
\6\ Negative tax expenditure of less than $500,000.
Note.--Details may not add to totals due to rounding.
Source: Joint Committee on Taxation.